PRINCIPLES 

OF 

ECONOMICS 

Being a Revision of 

INTRODUCTION TO ECONOMICS 



BY 

HENRY ROGERS SEAGER 

Professor of Political EcoDomy in Columbia University 




NEW YORK 

HENRY HOLT AND COMPANY 

1913 



r 

,344 



CopvRionT, 1913, 

BY 

HENRY HOLT AND COMPANY 



:^ 



* PREFACE 

The present work is the fourth edition of my Introduction 
to Economics, which was first published in 1904. I have 
changed the title to Principles of Economics to prevent the 
confusion of this book with my Economics: Briefer Course, 
which appeared in 1909, and to conform to "the usage which 
has grown up of designating as Principles any treatise which 
covers the whole field of economics. 

The purpose of the book is to introduce college classes to 
the study of the subject. This is, if I may repeat what was 
said in the preface to the first edition, " a task of no little 
difficulty. If lectures are depended upon exclusively, much 
time must be wasted in imparting information that could be 
acquired more quickly and more surely from the printed page. 
On the other hand, exclusive reliance on a text-book results 
in narrowness and dogmatism on the part of both teacher and 
student." The obvious escape from this dilemma is to com- 
bine the text-book and lecture methods, and it was to facilitate 
such a combination that the book was first written. 

In revising it for this new edition I have done a good deal 
more than bring the information it contains up to date, im- 
portant as this part of my task has been. I have rewritten 
several of the theoretical chapters and recast the explana- 
tions of the laws of value and distribution so as to anticipate 
difficulties and clear up possible misunderstandings. While 
continuing to describe the explanation of distribution pre- 
sented as the " productivity theory," I have tried to make 
it perfectly clear that this phrase is intended merely to em- 
phasize the intimate relation between distribution and pro- 
duction, which some economists have seemed to deny. An 
understanding of distribution requires constant attention to 
both sides of the value problem, the demand side and the 
supply side, and no theory, by whatever name it bet called, 
can be complete which wavers in this attention or gives' undue 



PREFACE 

M^.minence to one side to the neglect of the other. Tl-^ 
presentation of economic theory which results from this i 
^■ision will be found, I believe, both simpler and more accurate 
than in the previous editions. 

"With a view to harmonizing, so far as possible, tiie 
nomenclature of this book with that employed by other Ameri- 
can economists, I have throughout substituted the phra.se, 
" waint gratification " for " want satisfaction " of the earlier 
editions, and " enterprisers " for " entrepreneurs." The 
first change is an undoubted improvement. I am not so con- 
fident as to the wisdom of the second, but have decided upon st 
on the ground that " enterpriser," notwithstanding that it is 
etymologically less elegant than ' ' entrepreneur, ' ' has the great 
advantage of seeming like an English word and, therefore, 
a better chance of making its way into everyday speech. 

The changes in the second half of the book, dealing wi^b 
practical economic problems, have been even more extensiv 
The rearrangement and expansion of the material have > 
suited in four new chapters on the Reform of the Tax S^'s- 
tem of the United States, Profit Sharing and Labor Co- 
partnership, Social Insurance and Socialism, in place of the 
single chapter on Plans of Economic Reform in the previmj-S 
edition. Not only in these new chapters but throughou I 
have tried to bring together the latest information in regard 
to new governmental policies in the economic field and their 
results. 

The increased attention devoted to socialism reflects the 
increasing importance of that subject. No sincere, high- 
minded person can fail to be strongly attracted by the ideal 
which socialism presents. A reorganization of industrial 
society which promises to make the brotherhood of man some- 
thing more than an empty phrase, which proposes to dispense 
with the wastes of competition and which undertakes so to 
exalt the functions of the state that the best capacity of the 
nation will be constantly in its service, merits not only the 
most careful but also the sympathetic consideration of econo- 
mists. In the current literature in advocacy of socialism, the 
Marxian theories of value and interest still figure prominently, 
although tliey re no longer accepted by all socialists. It 



PREFACE V 

has seemed worth while, therefore, to restate with s -'("al 
care and clearness the conclusive objections to the labor ; ^ 
of value and its corollary, the exploitation explanat; tii of 
interest. In doing so I have tried to bring out clear v f.l- - 
distinction between the so-called " scientific socialism " of 
Marx, at which my criticisms are directed, and socialism as a 
program of social reform. 

Though this edition is perhaps more largely my own work, 
the fruit of my own thought and teaching experience, than 
earlier editions, it still owes much of its form and content to 
suggestions derived from other writers. I desire particularly 
to record my indebtedness to the writings and teachings of 
Professors J. B. Clark, S. N. Patten, Eugen von Bohm- 
Bawerk and Alfred Marshall. More concrete is my obliga- 
tion to Professor R. C. McCrea, who suggested changes in the 
figure on page 190 and other improvements in Chapter XI. 
Greatest of all is my indebtedness to my wife, whose unflag- 
ging interest and patient criticisms have been an aid and 
encouragement at times when both were much needed. 

Henry R. Seager. 

SOTTTHPORT, CONNECTICUT, 

July 27, 1913. 



CONTENTS 

CHAPTER I 

RISE OF MODERN INDUSTRY IN ENGLAND 

PAGE 
Definition of Economics — Its Relation to Other Social Sciences: 
Sociology — Politics and Law — History — The Manorial System 
— Its Characteristics — Contrasted with Modern System — The 
Gild System — Merchant Gilds — Craft Gilds — Change from Lo- 
cal to National Regulation — The Black Death — Inclosures — 
Causes of Breakdown of Manorial and Gild Systems — The 
National System — Debasements of the Coinage — Statute of 
Apprentices — Monopolies — The Mercantile System — The Indus- 
trial Revolution — Mechanical Inventions — The Steam Engine 
— Spinning — Weaving — Steam Transportation — The Laissez- 
faire Policy — Abolition of Old Restrictions — Rise of the Fac- 
tory System — Its Consequences — Conclusions — References for 
Collateral Reading 1 

CHAPTER II 

INDUSTRIAL EXPANSION OF THE UNITED STATES 

The Colonial Period — Liberty, Private Property and Equality — 
Slave V. Free Labor — The National Industrial Ideal — Physical 
Characteristics of the LTnited States — The Atlantic Seaboard 
— The Middle West — The Great American Desert — The Far 
West — The New Possessions — Development of Transportation 
Facilities — Growth of Railroads — Crossing the Continent — 
Importance of Railroads — Growth of Population — The For- 
eign and Native Born — Negroes — Distribution of the Popula- 
tion — Race Problem in South — The Foreign Born — Growth 
of Cities — Foreign Born in Cities — New Issues Following the 
Conquest of the Continent — References for Collateral Reading 21 

CHAPTER III 

INDUSTRIAL EXPANSION OF THE UNITED STATES 
{concluded) 

Progress of Agriculture — Recent Developments — Important Crops 
— Corn — Hay — Wheat — Cotton — Progress of Mining — Iron — 
Coal — Gold — Silver — Copper — Petroleum — Natural Gas — Prin- 
cipal Mineral Products, 1910 — Progress in Manufacturing — 
Manufactures of Iron and Steel— Manufactures of Cotton — 
Concentration in Manufacturing— The Growth of Commerce — 
Changes in Exports — Relative Importance of Commerce — Con- 
clusion — References for Collateral Reading 37 



viii CONTENTS 

CHAPTER IV 
PRELIMINARY SURVEY OF ECONOMICS 

PAGE 

Definition of Business — Motives to Business Activity — Character- 
istics of the Business Man: Self-interest — The Larger Self — 
Desire for Independence — Business Morality — Goods and Their 
Utility — Free Goods — Economic Goods — Value — Relation Be- 
tween Utility and Value — Value in Use and Value in Ex- 
change — Price — Production and Consumption — The State of 
Normal Equilibrium — Effort and Sacrifice Involved in Produc- 
tion — The Cost of Production — Expenses of Production — 
Work and Pay — The World's Workers — Wages — Property and 
Its Earnings — Business Activity May be Predatory, Not PrO' 
ductive — Illustration — The Remedy — The Methods of Eco- 
nomics: Deduction — Induction — Statistics — The Laws of Eco- 
nomics — New Economic Conditions Give Rise to New Laws — 
Outline of Book — Conclusion — -References for Collateral Read- 
ing — Bibliographical Note 50 

CHAPTER V 

CONSUMPTION OF WEALTH 

Characteristics of Human Wants — The Law of Diminishing Utility 
— Present v. Future Goods — Wants Are Determined by Social 
Standards — The Law of Demand — Elasticity of Demand — The 
Law of Variety — The Law of Harmony — The Law of Least 
Social Cost — Adaptation of Wants to Environment — Adap- 
tation to Tastes of Producers — Progress Due to Changes 
in Tastes — Adaptation to Laws of Production — Economical 
Consumption — Nutritive Value of Foods — Luxury — Definition 
of Luxuries — Of Necessaries — Necessaries for All Before Lux- 
uries for Any — Fallacies Respecting Luxuries — Defensible Lux- 
ury — Saving v. Spending — Statistics of Consumption — Con- 
sumption in the United States — Other Investigations — Family 
Budgets — Two Aspects of Consumption — Conclusion — Refer- 
ences for Collateral Reading 70 



CHAPTER VI 

VALUES IN USE 

Two Senses of Value — Values in Use Relative — Value in Use De- 
pends on Marginal Utility — Limitations on Above Law: Calcu- 
lations Always Prospective — Valuation Refers to Single Units, 
Not Whole Stock — Marginal Utility Always Affected by 
Amount of Supply — Value and Marginal Cost or Disutility — 
Graphic Presentation of Relation Between Utility and Dis- 
utility — Surplus Utility — Marginal Utility and Value in In- 
dustrial Society — Marginal Utility Estimated by Marginal 
Consumers — Valuation Even of Single Goods Complex — Valua- 
tion a Collective Process — Marginal Cost and Value in Indus- 
trial Society — Complications in Calculation of Social Cost — 
Valuation of Complementary Goods — The Factors in Produc- 
tion Are Complementary Goods — The Margin of Consumption 



CONTENTS ix 

PAGE 

— Importance of Price Phenomena — Exchange Values Ratios — 
The Value of Money May Change— The Value of Money — 
Adam Smith's Error in Discussing Value — References for 
Collateral Reading 89 

CHAPTER VII 

VALUES IN EXCHANGE AND PRICES 

The Determination of Prices — Buyers' Calculations — Sellers' Cal- 
culations — Price Scales — Definition of a Market — Data for 
Price Scales Lacking — Four Possible Situations for Deter- 
mination of Prices: One Buyer and One Seller — Several 
Buyers and Only One Seller — One Buyer and Several Sellers — 
Two-sided Competition — Gi'aphic Representation of Two-sided 
Competition — The Berlin Stock Exchange — Complications — 
Advantages of One-price System — The Marginal Buyer — The 
Marginal Seller — Market v. Normal Prices — References for Col- 
lateral Reading 109 

CHAPTER VIII 

PRODUCTION: LAND AND NATURAL FORCES 

Nature of Production — Manufacturing and Trading as Truly Pro- 
ductive as Agriculture — Factors in Production: Nature and 
Man — Capital a Secondary Factor — Definition of " Land " — 
Progress in Production — Different Characteristics of Different 
Pieces of Land — Old and New Countries Contrasted — Differ- 
ences in Land Cause Differences in Expenses of Production: 
Mining — Wheat Culture — Manufacturing — Source of Rent — 
Law of Diminishing Returns — Applies to Extensive or In- 
tensive Margins of Cultivation — Law Static — Social Influences 
Important — Suburban and Country Acres Contrasted — High 
Value of City Real Estate — Value of Land Often Due to 
Human Forethought — Definition of Rent — References for Col- 
lateral Reading 122 



CHAPTER IX 

PRODUCTION: LABOR AND CAPITAL 

Man as Producer — Qualities Influencing His Efficiency — Conditions 
Favorable to Health and Strength — Intelligence and Judgment 
— Ambition, Energy and Perseverance — Imagination, Mechan- 
ical Ingenuity and Technical Knowledge — Tendency of Evo- 
lution — Capitalistic Production — Its Advantages — Capital 
Goods and Capital — Fixed and Circulating Capital Goods — 
Mobility of Capital Goods — Money — Fixed and Specialized 
Capital Increasing — Labor Also Subject to Law of Diminish- 
ing Returns — Also Capital — Law of Diminishing Returns Gen- 
eralized — Methods of Acquiring Capital — Saving and Investing 
— Borrowing and Investing — Borrowing from Banks — Borrow- 
ing Not Always for Investment — Saving and Waiting Necessary 



CONTENTS 



to Existence of Capital — Economic Cause of Interest — Capital 
Goods the Things Saved — Buying Stocks and Bonds Does Not 
Add to Capital — Kinds of Capital Goods — Land and Capital — 
Personal Qualities Not Capital — Reasons for Describing Deal- 
ers' Stocks as Capital — Money — Progress in Capitalistic Pro- 
duction: Middle Ages — Growth of Commerce — Influence of 
Industrial Revolution — Conclusion — References for Collateral 
Reading 135 

CHAPTER X 

PRODUCTION: COOPERATION AND BUSINESS 
ORGANIZATION 

Cooperation — Varieties of Cooperation — Importance of Growth of 
Markets — Influence of Improved Means of Transportation — 
Qualities Necessary to Effective Cooperation: Honesty — 
Steadiness — Spirit of Conciliation — Obedience— These Qualities 
Fostered by Cooperation Itself — Advantages of Cooperation — 
Disadvantages of Cooperation — Other Considerations — Statis- 
tical Evidence of Benefits from Cooperation— Business Or- 
ganization — The Enterpriser — Forms of Business Organization : 
The Single Enterpriser — The Partnership — The Corporation — 
Advantages of Corporations — Their Disadvantages — -Diffused 
Responsibility — Abuse of Borrowing Power — Political Cor- 
ruption — Dependence of Corporations for Success on Single 
Individuals — Large v. Small Scale Production — Advantages 
of Large Scale Production : Division of Labor — Equipment of 
Capital Better Employed — Especially in Transporting In- 
dustries — Economy in Buying Supplies — Saving Through By- 
products — Can Spend More on Experiments — Classification of 
Business — Tlie Representative Firm — References for Collateral 
Reading 153 

CHAPTER XI 
PRODUCTION AND DISTRIBUTION 

Relation Between Production and Distribution — Definition of 
Net Product — Of Money Income — Of Real Income — Distribu- 
tion from Viewpoint of Enterpriser — Definition of Wages-of- 
Management — The Other Shares: Rent — Wages — Interest — 
Taxes — Business Man's Explanation of These Shares — Why 
Economist Must Go Further — Explanation of Wages-of-Man- 
agement — Included in Explanation of Wages — Distribution 
Concerned with the Money Income — Increasing Net Product 
Normally Increases Money Income — Relation Between Money 
Income, Real Income and Net Product — Services of Consumers' 
Goods Part of Real Income — Real Incomes Drawn from 
Capital Rather than Directly from Net Product — Confusion 
Caused by Constant Changes — Assumption of State of Normal 
Equilibrium — Net Product and Real Income Interchangeable — 
Correspondence to Actual State — Purpose of Assumption — 
Arithmetical Illustration — Assumptions Made — Conclusions 
from the Example — Comparison with Actual Conditions — 
Relation Between Net Product. Money Income and Real In- 
come — Graphic Illustration — Explanation — Complications in 
Actual Industrial Society — Importance of Prices — Influence 



CONTENTS xl 



of Marginal Buyers — Influence of Expenses of Production — 
Representative Firms and Normal Prices — The Shares in 
Distribution — Competitive and Monopoly Profits — The Law of 
Competitive Distribution — References for Collateral Reading 170 



CHAPTER XII 

DISTRIBUTION: COMPETITIVE PROFITS 

Cause of Competitive Profits — The Power of Substitution — Defini- 
tion of Competitive Profits — Their Causes: Fluctuations in 
Prices — Means of Limiting Fluctuations — Dealings in Futures 
— Illustrated by Reference to Wheat — Service of Speculators — 
Speculation v. Gambling — General Price Movements — Effect 
of Rising Prices — Of Falling Prices — Profits from Inventions 
— Profits from Improved Methods — Profits and Losses from 
Changing Natural Conditions — Profits from New Land — 
Profits from Changing Rents, Wages and Interest— Conclu- 
sion — References for Collateral Reading 198 

CHAPTER XIII 

DISTRIBUTION: MONOPOLY PROFITS 

Definition of Monopoly — Contrast with Differential Advantages — 
Kinds of Monopolies — Importance of Monopolies — Limitations 
on Monopoly Power — Power of Substitution — Competition — 
Legal Interference — Conclusion — Law of Monopoly Price — 
Complications — Summary — Methods of Concealing Monopoly 
Profits — Inflated Salaries and Other Expenses — Stock Water- 
ing — Funded Incomes — Earned v. Unearned Incomes — Mo- 
nopolies Not Always Disadvantageous — Influence of Monopoly 
Profits on Other Shares — Practical Phases of Monopoly 
Problem Treated in Later Chapters — References for Collateral 
Reading 213 

CHAPTER XIV 

DISTRIBUTION: RENT 

Contrast Between Profits and Other Shares — Definition of Rent — 
Problems Connected with Rent — The Source of Rent — The 
Principal Grades of Land Distinguished — Store Sites — Resi- 
dence Sites — Plots Devoted to Truck Farming — Farm Land 
Proper — Grazing Land — Fertility as Important as Situation 
to Rent — The Demand for Land of Different Grades — The 
Calculation of Rent — Summary of Explanation — Other Causes 
of Rent — The Rent of Sovirces of Water Power — The Rent 
of Mines — Apparent Exceptions to the Law of Rent — Exist- 
ence of Several No-rent Margins — The Rotation of Crops — 
Average Return Basis for Calculating Rent — Land Fit for 
One Use Only May Command High Rent — Other Complica- 
tions — Investments of Capital in Land and Rent — The Capi- 
talization of Rent — Summary of Theory of Rent: Its Cause — 
Includes a Marginal as well as a Differential Element — The 



xii CONTENTS 

PAGE 

Intensive Margin — A Surplus Income — When There Is No 
Rent — Law of Diminishing Returns — Permanent Improvements 

Rent and Price of Land — Commercial Not Always Same 

as Economic Rent — The Metayer System — Rent of Buildings 
and Ground Rent — Importance of Rent — References for Col- 
lateral Reading 229 

CHAPTER XV 

DISTRIBUTION: WAGES 

Definition of Wages — Differences in Rates of Wages Due to Un- 
equal Capacities of Workmen — Differences Gaged in Same 
Way as in Case of Rent — Relation Among Different Groups 
— Tendency Toward One Uniform Rate of Wages — Different ' 
Grades Overlap — Some Workmen Below the Margin in Their 
Group — Individual's Efficiency Depends on Right Choice of 
Occupation — Unequal Opportunities of Workers — Number of 
Grades Very Large in Practice — Higher Wages Measured 
from Marginal Wages — The Rate of Wages Depends on Rela- 
tion Between Demand and Supply — Differences in Wages 
Perpetuated by Immobility of Workers— Efficiency and Time 
Wages Contrasted — Other Causes of Differences in Wages: 
Differences in Cost of Living — Expense of Learning Trade — 
Ease or Difficulty of Work — Hazard Involved — Chance of Suc- 
cess or Failure — Social Esteem — Regularity of Employment 
— Chance for Promotion — Finally Men Unlike — Influence of 
Heredity in Dispute — Influence of Habit, Custom and Edu- 
cation — Differences in Standards of Living Perpetuate Differ- 
ences in Wages: Definition of Standard of Living — Educational 
Opportunities of Children of the Well-to-do and of Manual 
Laborers Contrasted — Reasons Why More Is Not Invested 
in Education — Necessity for Free Public Education — Con- 
clusion — The Determination of Marginal Wages — References 
for Collateral Reading 244 



CHAPTER XVI 

DISTRIBUTION: INTEREST 

Definition of Interest — Nature of Problem — Preliminary Explana- 
tion — Interest on Bank Loans a Derived Form — The Source 
of Interest the Productiveness of Capital — Summary State- 
ment of Explanation — Interest Paid for Use of Capital — 
Points Requiring Special Emphasis — The Replacement Fimd 
Gives Mobility to Capital Embodied in Capital Goods — Com- 
petition Tends to Eliminate Differences in Rates of Interest 
— Differences Among Different Branches of Production — 
Causes of Differences in Rates — Monopoly — Interest on Per- 
manent Improvements — Specialized Forms of Capital Lack 
Mobility — Differences in Risk of Loss — Differences Among Dif- 
ferent Sections — Differences in Rates of Interest Less Marked 
than Differences in Wages — Assumptions Made to Simplify 
Discussion — Monopolies Not Considered — Rent Already Ex- 
plained — Circumstances Determining Amount of Joint Share — 
The Influence of Enterprisers — Qualities and Quantities of 



CONTENTS xiii 

PAGE 

Workmen and Capital Goods Important — Both Wages and 
Interest High in the United States— The Law of Competitive 
Distribution — Workmen and Capital Goods Compete as well 
as Cooperate — This Competition Leads to Comparisons and 
Substitutions by Which Wage and Interest Rates Are Deter- 
mined — Law Restated — The Law of Competitive Distribution 
Illustrated — Correspondence with Actual Industrial Society 
— References for Collateral Reading 262 

CHAPTER XVII 

VALUE, PRICE AND DISTRIBUTION 

Summary of Theory of Value — Summary of Theory of Prices — 
Relation Between Incomes of Consumers and the Expenses 
of Production — Graphic Representation of Production and 
Distribution — Restatement of Theory of Rent — Restatement of 
Theory of Wages — The Wages of Marginal Workmen — Re- 
statement of Theory of Interest — The Calculation of the 
Replacement Fund — The Life Period of a Capital Good Depends 
upon Current Rates of Wages and Interest — Explanation of 
Interest Applies to Gross as well as to Net Earnings of 
Capital Goods — Restatement of Law of Competitive Distribu- 
tion — Necessary Qualifications — Other Theories of Distribu- 
tion — The Exchange Theory — Interest a Discount on Future 
Goods — The Exchange Theory from Viewpoint of Lenders — 
The Productivity Theory from the Viewpoint of Borrowers — 
Two Theories Complementary — The Wages-fund Theory — 
Conclusions Drawn from It — Criticism of the Theory — Other 
Objections and Conclusion — References for Collateral Reading 283 

CHAPTER XVIII 

VALUE, PRICE AND DISTRIBUTION {concluded) 

The Ultimate Determinants of Distribution — Statistics of Popu- 
lation — Differences in Rates of Growth, 1901-1911 — Birth, 
Death and Marriage Rates of Different Countries — Conclu- 
sions — The Malthusian Theory of Population — Its Influence 
on Economic Thought — Criticism of the Theory — Current 
Theories : The Physiological Check — The Influence of Social 
Customs — The Economic Check — Influence of the Standard 
of Living — A Stationary Population — Conditions Necessary to 
a Low Birth-rate — Progress and Standards of Living — Popu- 
lation Should Grow at the Top, Not at the Bottom — Growth 
of Population in China — Growth of Population in France — 
Conclusions — The Growth of Population Controlled by Stand- 
ards of Living — The Growth of Capital — Increase in Wealth 
in the United States — Growth of Capital in Agriculture and 
Manufacturing— Necessary Cautions — Present Goods Preferred 
Above Future Goods — Reasons for This Preference — Influence 
of These Motives Depends on the Amount of Individual's 
Income — The Motives to Saving — Progress Strengthens These 
Motives — The Ultimate Determinants of Distribution — The 
Balancing of Utilities Against Disutilities — References for 
Collateral Reading 300 



■4 



CONTENTS 



CHAPTER XIX 



MONEY AND THE MONETARY SYSTEM OF THE 
UNITED STATES 



The Disadvantages of Barter — The Nature and Functions of 
Money — Money a Standard of Value — Also of Deferred Pay- 
ments — Prices and the Value of Money Vary Inversely — 
Stability of Value Necessary to a Good Money — Various Com- 
modities Have Served as Money — Qualities of a Good Money — 
The Role of the Government in Regulating the Monetary Sys- 
tem — Coinage and the Printing of Paper Money — The Three 
Kinds of Money: Standard — Token — Credit — Gresham's Law 
— Illustrated from Monetary History of the United States — 
Application to Present Monetary System — The Adoption of the 
Gold Standard in Europe — Its Adoption Outside of Europe — 
Monetary History of the United States — The Gold Standard 
Law — Present Monetary System of the United States — Main- 
tenance of Parity of Value Between Gold Coin and Gold 
Bullion — Between Gold and Silver Coin — Between Gold Coin 
and Paper Money — The Gold Reserve — The National Bank 
Notes — Stability of the Gold Standard — Defects in Monetary 
System of the United States — The Function of Token Money 
— Are Half-cent Pieces Needed? — The Useless Silver Hoard — 
Objections to Sale of Silver Dollars as Bullion — Remedy 
Advocated — References for Collateral Reading .... 322 

CHAPTER XX 

CREDIT AND BANKING 

The Nature of Credit— Book Credit — Description of Banking 
Business — The Bank of England — The Check System — Checks 
and Drafts — Money and Credit — Importance of Deposits to 
Banks — Forms of Bank Loans — Collateral Loans — Call and 
Time Loans — Banks Lend Their Credit — By Means of Deposit 
Accounts — Or Bank Notes — Interest on Bank Loans Paid for 
Control over Capital — Gold Coin is Capital — Credit Is Not 
Capital but It Does Work of Standard Money — Limitations on 
Use of Bank Credit — Short-time Loans — Competition Tends to 
Adjust Bank Rate of Interest to the General Rate — Should 
Banking be Regulated ? — Argument for Free Banking — Counter- 
argument — History of the National Banking System — The 
Present Law — Emergency Notes of 1908 — Protection of Note 
Holders — Of Depositors — Defects in System — Bank Notes 
Perversely Elastic — Proposed Reform in System of Note Issues 
— Reforms in Reserve System — Statistics of Banking Insti- 
tutions — Conclusion — References for Collateral Reading . .341 



\ 



CHAPTER XXI 

FOREIGN EXCHANGE AND SOME UNSETTLED 
MONETARY PROBLEMS 



The Nature of Foreign Exchange — International Credits and Debits 
— Scerling Exchange — The Gold Points — The Rate of Sterling 
Exchange — Controlling Rate of Exchange Through the Rate 



CONTENTS XV 

PAGE 

of Interest — Influence of Prices — Three-cornered Exchanges 
— When Standards Diff"er — A Country's Gold Supply Regulates 
Itself— The United States Should Normally Export Gold — 
Unsettled Monetary Problems — Demand and Supply in Re- 
lation to Gold — Three Different Kinds of Demand — The Arts 
Demand — The Monetary Demand — The Reserve Demand — The 
Supply of Gold — Explanation of Table — Conclusion — Measuring 
the Value of Money or the Level of Prices — Other Methods — 
Relation Between Level of Prices and Value of Money Illus- 
trated — Price Statistics — Discussion of Chart — International 
Bimetallism — Triumph of Gold Standard — The Free Silver 
Agitation — Future of the Gold Standard— Influences Steady- 
ing the Value of Gold — The Multiple Standard — References for 
Collateral Reading 365 

CHAPTER XXII V 

THE TARIFF QUESTION 

Foreign and Domestic Trade Compared — Peculiarities of Foreign 
Trade — Principle Controlling Foreign Trade — The Policy of 
Protection — The Advantages of Free Trade — Arguments for 
Protection — The Infant-industry Argument: Special Form — 
General Form — The Home-market Argument — Origin of 
Present Tariff" System — The Wages Argument — The Vested- 
interests Argument — The Political Argument — The Payne- 
Aldrich Tariff— Burden of High Duties— The Making of a 
Tariff — Weakness of Arguments for Protection for United 
States To-day — Obstacles to Change — Present Status of Tariff 
Question in the United States — Protection v. Conservation — 
Interest of Producers in Free Trade — Retaliatory Tariffs — 
Tariff Cause of Political Corruption — Present Outlook — Refer- 
ences for Collateral Reading 383 



CHAPTER XXIII 

LEGAL AND NATURAL MONOPOLIES 

Importance of the Monopoly Problem — Public Legal Monopolies — 
Merits of Post-office — Private Legal Monopolies in the United 
Kingdom — In the United States — The Patent System — ^Argu- 
ments for and against Patents — Discussion of Arguments — 
Reforms Proposed — Present Status of Patent Law — Labels and 
Trade-marks — Copyright — Defects in Present Law — Impor- 
tance of Natural Monopolies — Natural Monopolies of Situation 
— The Anthracite Coal Combination — Future Policy — Other 
Natural Monopolies of Situation — Natural Monopolies of Organ- 
ization — The Business of Supplying Water — The Gas and 
Electric Light Monopolies — The Street-railway Monopoly — 
Reasons for Combination — Advantages of Combination — The 
Telephone Monopoly — Monopoly Renders More Convenient 
Service Possible — Methods of Fixing Rates — Monopoly Profits 
of Street Railways in the United States — Of Other Municipal 
Monopolies — The Solution of the Municipal Monopoly Prob- 
lem — Arguments for Public Ownership — Arguments Against 
Public Ownership — Other Considerations — The Situation in 



L 



xvi CONTENTS 

PAGE 

the United States and Abroad — Method of Regulating Mu- 
nicipal Monopolies — Obstacles to be Overcome in the United 
States — References for Collateral Reading .... 399 

CHAPTER XXIV 

RAILROAD PROBLEM IN THE UNITED STATES 

National Monopolies of Organization — Circumstances Making the 
Railroad Business Monopolistic — Progress Toward Railroad 
Concentration in the United States — Federal Legislation — 
Discrimination in Rates: Among Commodities — Among Lo- 
calities — Among Persons — Motives for Such Discrimination — 
Railroads and Trusts — Monopoly Profits Enjoyed by the Rail- 
roads — Failure of State Regulation — The Interstate Com- 
merce Act of 1887— Defects in Act — Amendments to Inter- 
state Commerce Act — The Short-lived Commerce Court — 
Discriminations Now Prevented^ — -Arguments for National 
Ownership and Operation of Express and Telephone Busi- 
nesses — Arguments for National Ownership and Operation of 
Railroads — Arguments Against— Other Considerations — Fur- 
ther Amendments Needed — The Future — References for Col- 
lateral Reading 424 



CHAPTER XXV 

TRUST PROBLEM IN THE UNITED STATES 

Definition of a Trust — Motives Behind Trust Movement — The 
Early Trusts — History of the American Trusts — Circum- 
stances Favoring Organization of Trusts — The Role of the 
Promoter — Facts as to Business Success of the Trusts — The 
Highly Successful Trusts — Reasons for This Success: Efficient 
Organization— Economy in Sale of Products — Saving in Cross 
Freights — Better Adjustment of Production to Demand — 
Other Reasons — Illegitimate Practices of the Trusts — The 
Standard Oil Company's Advantages in Transportation- — Dis- 
crimination in Prices — Unfair Methods of Competition Charged 
Against the National Cash Register Company — Conclusion 
as to Public Policy— The Trusts and the Tariff— Other 
Evils : Over-capitalization — -Political Corruption — Monopolistic 
Prices— Obstacles to Solution of the Trust Problem in the 
United States — The Sherman Anti-trust Act — Its Provisions 
— Anti-trust Act of Ohio — Difficulty of Enforcements— The 
Bureau of Corporations — Three Possible Ways of Regulating 
Trusts: National Control Alone Adequate — Proposal to Com- 
bine a Federal License and a Federal Incorporation Plan — 
Commission to Insure Enforcement of the Law — Transfer of 
Control over Business Enterprise to the Federal Government 
That Would Result— Reforms to be Effected — Prevention of 
Unfair Competition — Scaling Down of Protective Duties on 
Trust Products — A Model Federal Corporation Act — The 
Future of American Trusts — Regulation, Not Prohibition, De- 
sirable — Consumers' Power to Protect Themselves — Refer- 
ences for Collateral Reading 442 



CONTENTS 



CHAPTER XXVI 

GOVERNMENT EXPENDITURES AND GOVERNMENT 
REVENUES 

PAGE 
Scope of Discussion — Government Expenditures Are Designed, 
to Promote the General Welfare — Public v. Private Expendi- 
tures — Division of Governmental Functions in the United 
States — Division of Expenditures — Relative Importance of 
Public and Private Expenditures in the United States — 
Sources of Public Revenue — Revenue from Public Lands — 
From Public Industries — Definition of Special Assessments — 
Revenues from Loans — War Loans— Industrial Loans — De- 
ficiency Loans — Restrictions on Borrowing Power in the 
United States — Revenues from Gifts— Definition of a Fee — 
Definition of a Tax — Taxes Should Be Paid by Each in Pro- 
portion to His Ability — The " Equal Sacrifice " Theory — Prin- 
cipal Taxes Imposed in the United States — Tax Provisions 
of the Federal Constitution — -The Shifting and Incidence of 
Taxes — The Incidence of Customs and Excise Taxes — Property 
and Poll Taxes — Evasion of the Personal Property Tax — 
Evidence of Such Evasion — Incidence of a Perfect General 
Property Tax — Analysis of a General Property Tax — Tax on 
Land Paid by Landowner — Circumstances Obscuring This 
Fact — Capitalization of Land Taxes — An Example — An Old 
Land Tax Becomes Burdenless — A New Land Tax May In- 
volve Confiscation of Property — Taxes on Buildings Paid by 
Occupiers — Tax on Mortgages Paid by Borrowers — Injustice 
of a Partial Tax on Personal Property — Corporation Taxes — 
The Incorporation Tax — Franchise Taxes — The Capital Stock 
Tax — Advantages of This Tax — Gross Receipts Taxes — Net 
Income Taxes — Special Franchise Taxes — Their Resemblance 
to Land Taxes— Liquor License Taxes — Inheritance Taxes — 
References for Collateral Reading 472 



CHAPTER XXVII 

PRESENT TAX SYSTEM OF THE UNITED STi^TES 

Practical Aspects of Taxation — The Tariff System of the United 
States — Customs and Internal Revenue Duties Compared — 
The Present Internal Revenvte System — Stamps as Means of 
Collection — The Income Tax — The General Property Tax — 
Unequal Assessments — Abandonment of General Property 
Tax for State Revenue — Disadvantages of General Property 
Tax — Sources of Revenue of New York State — Corporation 
Taxes — Changes Proposed — The Special Franchise Tax — In- 
heritance Taxes in the LTnited States — And Abroad — Justifi- 
cation of Progressive Rates — Inheritance Taxes Impose Lit- 
tle Burden on Heirs — Tendency to Discourage Saving Ques- 
tionable — The Income Tax of the United Kingdom — Extent 
of Evasions — Its Importance and Convenience as a Source 
of Revenue — Income Taxes in the United States — Former 
Income Taxes — The Income Tax Amendment of 1913 — Argu- 
ments for and against a Federal Income Tax — Taxation and 
Distribution — Land and Special Franchise Taxes Paid out 
of Funded Incomes — Commodity and Business Taxes — In- 



xviii CONTENTS 

PAGE 

heritance, Income and General Property Taxes — Keferenees 

for Collateral Reading 500 

CHAPTER XXVIII 

REFORM OF TAX SYSTEM OF THE UNITED STATES 

Considerations Bearing on Proposed Tax Reforms — Suggestions as 
to Federal Tax System — Reform of State Taxation — General 
Property Tax Should Be Abolished — Inheritance Taxes Should 
Be Extended — The Best Kinds of Corporation Taxes — Eva- 
sion of Taxation by Non-residents — The High License Sys- 
tem Should Be Extended — The Real Estate Tax Should Be 
Subdivided into a Land Tax and a Buildings Tax — Historical 
Reasons for Private Property in Land in Europe — In the 
United States — The Present Land Problem — Extent of Ab- 
sentee Landlordism in the United States — George's " Progress 
and Poverty " — Objections to the Single Tax — It Would 
Involve Confiscation — Difficult to Administer — Desirable Re- 
forms in the Present System of Land Ownership — The Prob- 
lem in Cities — They Must Acquire More Land — Rigid Regu- 
lation Necessary — Larger Share of Tax Burden Should Fall 
on the Land — Conclusion — Special Franchise Taxes — License 
Taxes — Comparison of Proposed with Present System — Con- 
clusion — References for Collateral Reading . . . .519 

CHAPTER XXIX 

THE LABOR MOVEMENT 

Practical Application of Theory of Wages — Disadvantages of 
Wage-earners in Bargaining — Counter-considerations — An 
Illustration — Labor Organizations in the United States — 
Present Strength of Labor Organizations — History of British 
Law with Reference to Organizations — The Law in the United 
States — Organizations Now Liable to Damage Suits — Col- 
lective Bargaining — Objections of Employers — Conclusion — 
Strikes and Lockouts — Anthracite-coal Strike of 1902 — Rea- 
sons for Violence, Intimidation and Boycotting — Plans for 
Avoiding Strikes: Trade Arbitration — Voluntary Public 
Arbitration — Compulsory Investigation Advocated — Compul- 
sory Arbitration — The New Zealand System — Other Experi- 
ments — The Use of the Injunction in Labor Disputes — Legal 
Justification — An Example — Objections to Such Use — Remedies 
Proposed — The Influence of Trade Unions on Wages — Open 
Unions Not Monopolies — Closed Unions May Be Monopolies — 
Other Purposes of Trade Unions — Mutual Insurance — Indus- 
trial Democracies — Labor Legislation — Public Policy Advo- 
cated — The Industrial Relations Commission — References for 
Collateral Reading 536 

CHAPTER XXX 

LABOR LEGISLATION 

Reasons for Labor Legislation — In Case of Children— In Case of 
Women — In Case of Men — Labor Legislation in the United 



CONTENTS 



Kingdom — In the United States — The Constitutionality of 
Labor Laws — Child-labor Laws in the LTnited States — Laws 
Protecting Women Workers in the United States — The Legal 
Eight-hour Day — Arguments against It — Arguments for It 
— Conclusion as to Hour Legislation for Men — The Sweating 
System — Its Evils — Remedies Tried in the United Kingdom 
and the United States — Minimum Wage Regulations — ■Other 
Remedies Advocated and Conclusion — Dangerous Trades — 
System of Regulation of the United Kingdom — The Wisconsin 
Plan — Associations Working for Labor Legislation — Present 
State of Public Opinion in the United States — ^Need of 
Uniformity in Labor Legislation — References for Collateral 
Reading 562 



CHAPTER XXXI 

PROFIT SHARING AND LABOR COPARTNERSHIP 

Subjects of Concluding Chapters — Defects of Wages System — 
Definition of Profit Sharing — Sliding-scale System — Need of 
Standard Minimum Wage — Limited Application of Sliding- 
scale System — Simple Profit Sharing and Circumstances Limit- 
ing Its Extension— Its Limitations — Profit-sharing and Insur- 
ance Schemes — Profit Sharing Through Stock Ownership-^ 
Other Plans — Gain Sharing — Its Advantages and Disadvan- 
tages — Labor Copartnership or Cooperation — Cooperative 
Stores — Success of the Rochdale System — Cooperative Whole- 
sale Societies — The Scottish Society — Advantages of Distribu- 
tive Cooperation — Reasons for Its Slow Develojiment in the 
United States — Cooperative Banking — Producers' Cooperation 
— Conditions to Its Success — Contrast Between Cooperation 
in Stores and. in Shops and Factories — Limitations in Profit 
Sharing and Labor Copartnership — Conclusion as to Future 
— References for Collateral Reading 580 



CHAPTER XXXII 

SOCIAL INSURANCE 

Evils to be Guarded Against — Argument for Insurance — Definition 
of Social Insurance— Germany's Compulsory Accident Insur- 
ance System — State Accident Insurance — The Workmen's Com- 
pensation System — Argument for Compensation Principle — 
Industrial Accident Insurance in the LTnited States — The Con- 
stitutional Obstacle — Elective Systems of Compensation — 
Policy Advocated for the United States — Germany's Compul- 
sory Illness Insurance System — Benefits Provided — Statistics 
of Illness — The British National Insurance Act — Benefits 
Provided — Germany's Compulsory Old Age and Invalidity 
Insurance System — Other Methods of Providing for the Aged 
Poor — Conclusion — Difficulty of Insuring Against Unemploy- 
ment — The Ghent System — LTnemployment Insurance System 
of the United Kingdom — Future of Social Insurance in the 
United States — References for Collateral Reading . . ... 598 



XX CONTENTS 

CHAPTER XXXIII 

SOCIALISM 

PAGE 
Socialism — The Utopian Socialists — Socialism of Karl Marx — Its 
Basic Principles — Other Theories — Criticism of Argument of 
Marx — True Significance of the Class Struggle — Criticism of 
Theory of Surplus Value— Of Theory of Crises — Reasons 
for Progress of Socialism — Strength of Socialist Parties — 
Advantages Claimed for Socialism — Difficulties to be Over- 
come by the Socialist State — Other Criticisms — The Attitude 
of Socialists — Socialists and Social Reformers Compared — 
References for Collateral Reading 613 



CHAPTER XXXIY 

ECONOMIC PROGRESS 

The Nature of Economic Progress — Changes in Wages and Hours of 
Employment — Progress in Consumption — Progress in Produc- 
tion — Progress in Distribution— Reasons Why Wages Remain 
Low — Influence of the Growth of Population — Economic Justi- 
fication of Competitive Profits — Monopoly Profits — Rent and 
Interest — Justification of Rent — Justification of Interest — 
Unequal Distribution of Wealth and Its Causes — Argument 
for Heavy Taxation of Inheritances — Progress in the Future — 
Function of Trade Unions — Labor Laws — Regulation of Mo- 
nopolies — Of Housing Conditions — Free Public Schools — Re- 
form in Taxation — Progress Depends on Response of the 
Individual — Probable Course of Wages, Interest and Rent 
in the Future— Economic Progress and the Moral Elevation 
of the Race — True Goal of Economic Progress — Conclusion . 628 



PRINCIPLES OF ECONOMICS 

CHAPTER I 
RISE OF MODERN INDUSTRY IN ENGLAND 

§ 1. Economics, or 'political economy, is the social science Definition 
which treats of that portion of human activity which is con- of Eco- 
cerned with earning a living. It deals, on the one hand, with "o™ics. 
man's wants and, on the other, with the goods (i.e., the com- 
modities and services) upon which the gratification of his 
wants depends. It analyzes wants, classifies goods with refer- 
ence to them and considers all of the circumstances which 
affect the production and distribution, or sharing, of goods 
among the individuals who compose society. In discussing 
production and distribution economists treat the same prob- 
lems that engage the attention of business men, but from a 
social rather than an individual point of view. It is to em- 
phasize this distinction that economics is styled a " social 
science." A definition easy to remember is that economics is 
the social science of business. 

§ 2. Closely related to economics are the other social sciences Its Rela- 

— sociology, politics, law and history. By some writers so- *^°" *° 

ciology is made to include all of the social sciences, not ex- ^ .^^, 
^ , in- 1 • 1-1 Social 

ceptmg economics. Others define it as the science which treats sciences- 

of the beginnings of society and of the fundamental prin- sociology, 
ciples of social organization. Still a third group understands 
the term to include problems connected with society's treat- 
ment of its dependent classes. Whichever of these definitions 
be accepted, the relation of sociology to economics need cause 
no confusion. Economics has to do primarily with contempo- 
rary conditions and with the relations between independent, 
self-supporting individuals and families and the goods upon 
which their well-being depends. 



RISE OF MODERN INDUSTRY IN ENGLAND 



Politics 
and Law. 



History, 



The 

Manorial 

System. 



Politics treats of the political organization of society, and 
law is the aggregate of rules and regulations through which 
formal expression is given to the social will. Neither is likely 
to be mistaken for economics, although both influence largely 
the business institutions and practices with which economics 
is concerned. The political organization determines what 
classes shall have a dominant influence in choosing the laws 
that are to be passed and enforced, and laws themselves es- 
tablish standards to which all must conform. The solution of 
many of the practical economic problems which are discussed 
in later sections of this book will be found to hinge upon the 
repeal of old laws or the enactment of new ones. 

History, in the broadest sense, is the narrative of past events. 
To the economist, economic or industrial history, the narrative 
of past events touching relations between men and goods, is 
of special significance. In fact, a knowledge of the principal 
facts of modern industrial history is so necessary to an under- 
standing of present economic phenomena that it has seemed 
wise to introduce this book with sketches of the Rise of 
Modern Industry in England, and of the Industrial Expansion 
of the United States. 

§ 3. The earliest form of industrial organization of which 
we have full knowledge from English history is the " mano- 
rial " system. In existence before the Norman Conquest 
(1066), it was not entirely superseded until the sixteenth cen- 
tury. It, therefore, controlled English industrial activity for 
a greater number of years than any system which has since 
developed. To understand it clearly it is necessary to remem- 
ber that during the period when it flourished international 
intercourse took the form of fighting more commonly than that 
of trading, that each country was economically self-sufficient 
or nearly so, and that in order to maintain itself each com- 
munity was forced by its ignorance of efficient industrial 
processes to give nearly all of its time to providing for the 
gratification of its primary wants, for food, clothing and 
shelter. The manorial system was thus, on one side, a method 
of organizing the nation for military purposes and, on the 
other, a plan for securing the cultivation of the soil. It is 
the latter aspect which interests the economist. 



THE MANORIAL SYSTEM 3 

The manorial system was at its height about the middle Its Char- 
of the thirteenth century. At that time the whole cultivated acteristics. 
portion of England was divided up into estates or ' ' manors ' ' 
averaging perhaps 5000 acres in extent. The actual work of 
tillage on these manors was performed for the most part by 
serfs or " villeins," whose position was, from our modern 
point of view, peculiar. The villein was not a slave, and yet 
he could not legally leave the place in which he was born nor 
neglect his customary work without the consent of the lord of 
the manor. On the other hand, although he did not own the 
allotment of land which he cultivated, he was entitled to it by 
immemorial usage and might appeal to the manorial court for 
redress if it was withheld from him. The method of tillage 
was even more remarkable. Instead of being divided up into 
a number of separate farms or allotments, each to be cultivated 
independently and continuously by the same tenant, the arable 
land of the manor was usually divided up into three great 
fields, hundreds of acres in extent, each one of which was 
planted with a single crop. The usual practice was to sow 
one field with wheat or rye, another with oats or barley, and 
to allow the third to lie fallow as a preparation for the heavy 
crop to be grown the following year. The ordinary allotment 
made to a villein was some thirty acres, assigned usually in 
half-acre or acre strips from different parts of the farm. By 
this plan the villein was enabled to participate in the different 
kinds of agriculture carried on in the different fields, while at 
the same time he received a share of the good as well as of the 
poor land. He paid for his allotment, not with money, but 
with labor, and the amount of labor was fixed by immemorial 
custom. 

The most important labor was " week- work," i.e., work on 
the land which the lord retained for himself for two or three 
days each week throughout the year, and " boon-day " work 
or continuous work on the lord's land for one or two weeks 
during the plowing season and the season of harvest. In addi- 
tion certain presents and special services were required of the 
villein at stated seasons. 

§ 4. The manorial system, which flourished for hundreds of 
years on the Continent of Europe as well as in England, was 



4 RISE OF MODERN INDUSTRY IN ENGLAND 

Contrasted ^o different from anything now found in the Western World 
^^*^ that a brief comparison of its chief features with present-day 

Svstem conditions will be suggestive. In the first place, fully nine- 
tenths of the population of England lived in the country on 
these manorial estates, and the larger part consisted of the 
villeins and their families. To-day, in Great Britain, more 
than two-thirds of the people live in cities of 10,000 or more 
inhabitants, and the larger part consists of wage-earners em- 
ployed in manufacturing and commercial enterprises, and 
their families. Secondly, most of the inhabitants of the manor 
were condemned to live and die where they were born, and 
few of them ever visited other places or came in contact with 
other w^ays of living. The difficulty and danger of travel, the 
scarcity of money and other forms of wealth that might be 
treasured up and easily transported, and the poverty of the 
villeins, were all conditions serving to reinforce the legal 
obstacles to the free movement of population from one part 
of the country to another. It was a rigid system of status 
in which children were forced to follow in the footsteps of 
their fathers and only those of rare ability could hope to rise 
above the positions to which they were born. The greater 
freedom of movement enjoyed by present-day wage-earners 
need not be emphasized. Thirdly, each villein family pro- 
duced for itself practically everything it required. The few 
exchanges in which villeins participated consisted in the bar- 
ter of their products for the small quantities of salt, iron and 
other foreign goods, which they needed and could not pro- 
duce for themselves. Under these circumstances the stimulus 
of competition, so active where production is for the general 
market, was almost entirely absent. The result was that slow 
development of industrial processes which made the perpetua- 
tion of the system for so many centuries possible. The crops 
to be sown and the methods of cultivation had become matters 
of tradition and the idea of improving upon the wisdom of the 
fathers touching these subjects was foreign to the thought of 
the time. Thus generation followed generation, dividing up 
the land in the same way, using the same crude implements, 
subsisting on the same sorts of food, dwelling in the same sorts 
of houses and wearing the same sorts of clothes. In contrast 



THE GILD SYSTEM 5 

with this condition of stagnation, change, movement and 
progress are the dominant characteristics of the present day. 
Fourthly, as already stated, money was almost unknown to 
dwellers on the manorial estates. Between the products of 
their labor and the commodities they themselves desired, there 
was no confusing intermediary to leave them uncertain 
whether they were receiving all to which they were fairly en- 
titled. The simplicity of this situation is in striking contrast 
with the complexity of our present industrial organization, 
when practically everything that is produced is sold for money 
and practically everything that is consumed is bought with 
money. 

§ 5. Contemporaneous with the manorial system in the The Gild 
country was the gild system in the town. To understand the System, 
function of the gilds it is necessary to remember that towns 
grew up as centers of trade and that their populations were 
made up in part of persons who had broken away from the 
restraints of manorial life. The result was constant friction 
between the inhabitants of the towns and the nobles who so 
largely dominated the country. At the same time there was 
in progress a struggle between the nobles, who were jealous of 
the royal power, and the king. This made an alliance between 
king and townspeople so natural as to be almost inevitable. 
The king guaranteed the dwellers in the towns special privi- 
leges, set forth usually in royal charters, and in return the 
townspeople promised special contributions to the royal ex- 
chequer and unswerving loyalty in time of emergency. 

Since trade was the primary purpose of the town, trading Merchant 
privileges were those first demanded, with the result that ^'ilds, 
practically whole towns were incorporated as trading or 
" merchant gilds." The privilege might be limited to a 
monopoly of trade in all but the most necessary articles within 
the town itself. Often, however, it embraced also the trade in 
certain products in other towns or even throughout the king- 
dom. Interesting features of the merchant gilds were the 
minute rules by which they regulated the conduct of their 
members in reference to buying and selling. In this respect 
they were not unlike modern stock exchanges, except that the 
rules of the strictest exchange are lax in comparison with 



6 RISE OF MODERN INDUSTRY IN ENGLAND 

those of the merchant gild. The purpose of these rules was 
to promote fair dealing, fraternal relations among members, 
and, in general, a regard for the interests of the trade as a 
whole, in place of exclusive regard for individual gain in 
special transactions. Such matters as the times and places 
for holding particular markets, the qualities of goods to be 
dealt in and the methods of bargaining to determine prices 
came in for special regulation. The enforcement of these rules 
was intrusted to wardens or inspectors appointed from gild 
members, and the punishments inflicted on transgressors 
ranged from public censure to fine, imprisonment and ex- 
pulsion from the gild. 
Craft Gilds. As the towns grew they came to be the seats of various 
handicrafts, and within one hundred years after merchant 
gilds were organized " craft gilds " began to be formed. 
These were unions of the artisans engaged in each particular 
handicraft and were designed partly to promote honest work, 
fraternal relations, etc., as in the case of the merchant gilds^ 
and partly to secure for their members the right to trade in 
their own products. Like the merchant gilds, the craft gilds 
formulated and enforced most minute regulations concerning 
the conduct of their members. Thus, night work was fre- 
quently prohibited, weights and measures were regulated and 
the adulteration of products was forbidden. 

As voluntary associations of nominal competitors both mer- 
chant and craft gilds undertook to restrain competition in the 
interest of the whole trade. They rendered for their members 
many of the services, such as protecting their persons and 
property, which are now performed by the state or govern- 
ment; but in addition they bound their members not to pass 
beyond certain limits in their competition with their gild 
brothers lest the interests of the corporate group should suffer. 
Thus in the towns, as in the country, competition was much 
restricted at this period and in its place local customs and 
local regulations largely determined the direction of industrial 
activity. 

In the towns the institution of private property was more 
highly developed than in the country, since most town wealth 
was personal and the effective utilization of town land re- 



CHANGE TO NATIONAL REGULATION 7 

quired it to be more completely under the control of the person 
using it. At the same time, a town " common," or piece of 
land used in common by all the townsfolk, was a usual feature 
of town organization, and in other ways the original connec- 
tion of the towns with the manors was shown. 

§ 6. The decay of the manorial system and of the gilds Change 
was so gradual that it is difficult to trace its progress. The from Local 
first great change was a substitution of money payments for *o^^tional 
the labor dues formerly required of villeins. This was part 
of a general substitution of money exchanges for barter in 
all departments of industrial life and probably did more than 
anything else to break down the medieval and usher in the 
modern system of industry. The change was made possible 
for England by the active demand for her wool on the Conti- 
nent, especially after the Crusades in the thirteenth century, 
which did much to develop international trade. In exchange 
for wool, silver was imported, and this was coined and gradu- 
ally put into circulation in all parts of the country. ' Lords of 
manors did not oppose the change because it was clearly to 
their advantage to permit their villeins to substitute money 
payments for their labor dues, so long as they could hire 
labor as it was required. 

The last attempt to perpetuate the old system was made The Black 
after the terrible epidemic known as the " Black Death " Death. 
(1348), which carried oif from one-third to one-half of the 
population of the country. As a result of this frightful mor- 
tality labor became scarce and wages advanced. Rather than 
pay the higher wages demanded, the lords of manors and the 
king united in the attempt to compel the villeins to make the 
same labor return in exchange for their allotments as under 
the old service system. " Statutes of Laborers " ordering 
workmen to accept the customary wages were passed in 1351, 
and subsequent years, but they seem to have had little practi- 
cal effect. The Peasants' Revolt in 1381 seems to have been in 
part due to the bitter feeling engendered by these statutes, and 
though not immediately successful, it helped forward the tran- 
sition from older conditions to newer ones which were more 
favorable to labor. The onerous labor dues required of vil- 
leins had been so far given up by 1400 that the succeeding 



8 RISE OF MODERN INDUSTRY IN ENGLAND 

century has been styled " the golden age of the English 

laborer. ' ' 

Inclosures, The same cause which made possible the introduction of a 

money economy stimulated another tendency that hastened the 

break up of the manorial system, that is, the inclosure of 

lands that had previously been allotted to villeins or held in 

common and their transformation into great sheep ranches. 

The higher the price of wool, the greater the profit to be 

reaped by the lord of the manor from converting his estate 

into a sheep run. When, by the Black Death, the dearness of 

labor was added to the high price of wool as an inducement in 

this direction, " inclosing " proceeded at a rapid rate, witii 

the result that agricultural land came more and more to be 

private property as it is now understood in the United States. 

Causes of As a consequence of these changes, and others of subordi- 

Breakdown ^^^^ interest, English rural life had, by the beginning of the 

,„.,^ sixteenth century, assumed something of its modern char- 
and Gild •" ° . 

Systems. acter. The cultivators of the soil continued to produce tor 

themselves most of the commodities they consumed, but no 
longer under a system of joint labor. They still raised about 
the same crops, but there was not the dull uniformity of the 
earlier period, and some improvement in methods had been 
made. In each agricultural district market towns had grown 
up to which farmers brought such of their products as were 
salable and where they bought some of the commodities they 
could not produce advantageously for themselves. They paid 
money rents for their lands and if they worked for others 
received money wages as their compensation. 

The changes in the towns were as marked as those in the 
country. With the strengthening of the central government, 
the gilds, and especially the merchant gilds, were deprived of 
one of the chief objects of their existence, that is, the protec- 
tion of their members. Moreover, trade had become so much 
more extensive and important that the policy of giving asso- 
ciations with limited membership monopolies of its different 
branches was felt to be inexpedient. The loss of their mo- 
nopoly privileges was fatal to the merchant gilds as industrial 
organizations, and those which continued in existence became 
mere social or mutual benefit societies. 



THE NATIONAL SYSTEM 9 

The craft gilds survived for a longer period, but many of 
their functions also were assumed by the national government 
and the scope of their influence was narrowed. The immigra- 
tion of foreign artisans was also a circumstance tending to 
lessen their importance, though they did not relinquish their 
monopolies without vigorous and in some cases prolonged re- 
sistance. By 1600 the gilds had ceased to be the dominant in- 
fluence shaping town life. 

The most marked characteristic of the period which suc- 
ceeded was national regulation of industry. This was ushered 
in by a series of events which can be only mentioned in pass- 
ing. The accession of Henry VII. to the throne in 1485 gave 
the country a strong ruler just at a time when protracted civil 
war had prepared the people for sweeping changes. The cen- 
tralizing policy which he inaugurated was continued by Henry 
VIII. and Elizabeth, neither of whom lost an opportunity to 
substitute national for local control and regulation. These 
changes were favored by the invention of printing, which fos- 
tered the national literature, and by the discovery of America 
and of the ocean route to the Orient, which stimulated the 
national ambition. Henry VIII. 's quarrel with the Pope, on 
the subject of his divorce, severed the religious bond that at- 
tached England to the Continent. In becoming head of the 
Church as well as head of the State, Henry did much to exalt 
the importance of the crown in the eyes of his subjects. 
Through these influences national life was stimulated and 
reliance on the general government increased. The result was 
the industrial organization which for lack of a better name 
may be described as the " National System." 

§ 7. The extent to which the general government under- The 
took to regulate industry in England in the time of the ^^^^o^^'l 
Tudors is to-day hardly credible. We are so accustomed to 
the idea that the state should interfere as little as possible with 
business that the contrary system, in which regulation is relied 
upon usually and competition only under exceptional circum- 
stances, is difficult to imagine. And yet this was the condi- 
tion until comparatively recent times in England and in most 
European countries. 

The practice of the Tudor sovereigns was not different in 



10 RISE OF MODERN INDUSTRY IN ENGLAND 



Debase- 
ments of 
the 
Coinag'e. 



Statute of 
Appren- 
tices. 



principle from that of their predecessors. Henry III., for 
example, caused an " Assize of Bread and Ale " to be issued 
in 1267, which prescribed standard weights for the farthing 
loaf of bread, varying with the price of wheat, and required 
municipal authorities throughout England to enforce the regu- 
lation. Even before this an " Assize of Cloth," issued in 1197 
by Richard I., had declared that all woolen cloth made in Eng- 
land should be twenty-four ells * in length, and had appointed 
inspectors or " aulnagers, " to confiscate pieces falling below 
this standard. But the Tudors established and maintained for 
more than a century a strong central government and en- 
forced, as had no earlier sovereigns, their national regulations. 

Henry VIII. 's arbitrary modifications of the monetary sys- 
tem, made in order to increase the royal revenues, illustrate a 
bad phase of national regulation. On two different occasions, 
under cover of effecting a recoinage of the worn and mutilated 
money of the country, he caused the silver coins in circulation 
to be withdrawn and put out in their place coins whi«h not 
only were lighter in weight, but contained a smaller proportion 
of silver. Under his successor, Edward VI., this policy of 
debasement was carried so far that for a time the standard 
coin contained only one part of silver to three parts of alloy. 
A modern government might carry through such a policy once, 
but the attempt to repeat it three or four times within a few 
years would certainly precipitate a revolution. 

Under Elizabeth, governmental regulation took a happier 
turn. More politic than her father, she was never led by lack 
of revenue to disregard so completely the nation's interests. 
The most important piece of industrial legislation of her reign 
was the " Statute of Apprentices," enacted in 1563. This com- 
prehensive measure undertook to regulate the relations be- 
tween masters and their journeymen and apprentices with the 
same minuteness that was characteristic of the gilds. " It 
made labor compulsory and imposed on justices of the peace 
the duty of meeting in each locality once a year to establish 
wages for each kind of industry. It required a seven-years' 
apprenticeship for every person who should engage in any 
trade; established a working day of twelve hours in summer 
* An ell was forty-five inches. 



THE MERCANTILE SYSTEM 11 

and during daylight in winter; and enacted that all engage- 
ments, except those for piece work, should be by the year, with 
six months' notice of a close of the contract by either em- 
ployer or employee. ' ' * Besides these general regulations it 
contained others of a more special character, the enforcement 
of which would have left very little scope to competition to 
determine any of the relations between workmen and their 
employers. 

Another form of interference with industry very common Monopolies, 
during the reign of Elizabeth was the granting of monopolies. 
The most defensible were the great trading monopolies, such 
as the " East India Company," chartered in 1600, which had 
to incur very heavy expenses in establishing trade with dis- 
tant lands and could hardly hope to recover the sums invested 
unless protected by a monopoly. But other monopolies were 
granted with equal readiness. Among the articles whose pro- 
duction and sale were thiTs restricted to particular individuals 
toward the close of Elizabeth's reign were currants, salt, iron, 
powder, playing cards, calf-skins, hides, potash, vinegar, coal, 
steel, aqua vitse, brushes, bottles, saltpeter, lead, oil, glass, 
paper, starch, sulphur and new drapery. Even the personal 
popularity of Elizabeth did not prevent an outbreak when this 
list was read in Parliament, and she was forced to revoke some 
of the more obnoxious grants. 

§ 8. Consistent with this treatment of industries carried The 
on in England was the policy toward foreign trade known- as Mercantile 
the " Mercantile System," which was pushed to the greatest System, 
lengths during the seventeenth century. The central idea of 
this system was that the sure index of increasing national 
wealth is an increasing national supply of the precious metals. 
In harmony with this view it was held to be the essence of 
sound commercial policy to export commodities of high value 
and to import in return commodities of low value plus specie. 
The difference in value between commodity exports and im- 
ports was called ' ' the balance of trade, ' ' and a balance on the 
side of exports was styled ' ' favorable ' ' because it was thought 
to entail an importation of gold or silver. 

One of the most obvious regulations dictated by mercantilist 
* Cheyney, Industrial and Social History of England, p. 156. 



12 RISE OF MODERN INDUSTRY IN ENGLAND 

theory was the prohibition of the export of the precious metals. 
Such a regulation had been enacted in England as early a' 
1381 and it was continued as regards English coin until so lat 
a date as 1816. To encourage the exportation of commoditie; . 
bounties were frequently paid, such as the famous corn bounty 
introduced during the reign of William III., in 1689, and 
continued until England ceased, even in years of abundani 
harvests, to be an exporter of the grains. To discourage in 
ports — except gold and silver — a great variety of measure 
were resorted to, ranging all the way from low duties to absc 
lute prohibitions. Discriminatory duties on imports from cei 
tain countries, such as France, trade with which showed 
normally an unfavorable balance, were also common. Closely 
related to these trade regulations was the colonial policy ap- 
proved by the thought of the time. The mother country sough 
to limit the industries of her colonies to the production of ra\/ 
materials and to monopolize the trade consisting in the im 
portation of these materials and the exportation to them o 
needed manufactured articles. 

Other examples of governmental regulation might be given 
but enough has been said to indicate how completely every 
department of industrial activity was subject to governmentaJ 
interference. The place of the local regulations which lost 
their force with the decline of the manorial and gild systems 
was largely taken by these national regulations, and the field 
left to individual enterprise and competition was still very 
restricted. Only gradually did the conviction dawn in th- 
minds of English statesmen that free competition is, for many 
relations of industrial life, a more effective regulator than gov- 
ernment inspectors, backed though they be by the whole power 
of government police. This conviction did not bear fruit in a 
modification of national policy until after what has been styled 
the " industrial revolution." 
The § 9_ In 1750 England's industrial future was, to say the 

Industrial^ least, problematical. Her iron industry was in a declining- 
state in consequence of the destruction of her forests, fron* 
which the charcoal, still used in smelting iron ore, was ob 
tained. Coal mining was becoming more and more costly be- 
cause of the difficulty of keeping the mines free from water. 



Revolution. 



THE INDUSTRIAL REVOLUTION 13 

Manufacturing still retained its etymological significance of 
" making by hand " {manu, facere), and England was little 
more favorably situated than other countries to develop textile 
and other manufactures by hand processes. In agriculture 
much progress had been made since the sixteenth century, 
but the smallness of the country precluded any great develop- 
ment along agricultural lines. Finally, the country was on 
the eve of a great struggle with France to determine which 
should be the dominant power in America and India, and this 
struggle might well cause anxiety in England, since France 
was larger in area and three times as large in population. In 
the light of this situation no one would have ventured in 1750 
to predict for England the marvelous growth which she was 
about to experience. 

The new factors which started the industrial revolution Mechanical 
before the end of the eighteenth century and made England Inventions, 
for the greater part of the nineteenth the leading manufactur- 
ing country of the world, were inventions which caused power 
machinery to be substituted for hand labor in many fields 
of industry and enabled England to utilize on a great scale 
her immense coal and iron resources. Of these inventions the 
most important, although not the earliest, were James Watt's 
improvements in the steam engine. His single-acting, pump- The Steam 
ing engine was patented in 1769 and his double-acting, ma- Engine, 
chinery-propelling engine in 1782. The first was applied to 
work a bellows in an iron foundry even before it was set 
up in 1777 to pump out a Cornish coal mine. In both con- 
nections it proved greatly superior to the Newcomen engine 
which it superseded. The double-action engine was first em- 
ployed to run a cotton mill in 1785, and that date marks the 
turning point in England's history as a manufacturing coun- 
try. In its use to furnish a blast for smelting iron ore by 
means of bituminous coal the steam engine cheapened ma- 
chinery; in its use to keep coal mines free from water it 
cheapened fuel ; finally, in its use to propel cheap machinery 
by the aid of cheap coal it enabled English manufacturers to 
undersell all competitors in foreign markets. 

The steam engine did not accomplish this result all by itself, Spinning, 
however, since the machines which it was to propel had also 



14 RISE OF MODERN INDUSTRY IN ENGLAND 



Weaving. 



Steam 
Trans- 
portation. 



to be invented. In 1750 both spinning and weaving were 
hand processes, and even before Watt was occupied with his 
engines other inventors had been busied with the question 
of substituting power machinery for hand labor in these in- 
dustries. The first improvements displaced the old-fashioned 
spinning wheel. In 1764, or thereabouts, a poor weaver by the 
name of James Hargreaves devised the " spinning jenny," 
or multiple spinning wheel. About the same time other in- 
ventors hit upon the idea of spinning by means of rollers. 
Richard Arkwright, a barber, made a commercial success of 
this process with his " water frame," patented in 1769. In 
1779 Samuel Crompton, another weaver, combined these new 
processes in his " spinning mule " and thereby gave to power 
spinning something of its present efficiency. 

Power weaving was perfected less rapidly. The Rev. 
Edmund Cartwright invented the first power loom in 1785, 
b\it it was not until after 1800 that it began to displace to any 
considerable extent the old weaving frame. About the same 
time that Cartwright made his invention, Henry Cort, an iron 
and steel manufacturer, devised the puddling process for 
transforming pig into malleable iron, and machinery for roll- 
ing the latter into bars of convenient size for further manu- 
facture. By the end of the century the use of water and 
steam power in place of hand and foot power was beginning 
to make its way into every important branch of English manu- 
facturing, and the latter term was coming to have its present 
meaning of " making by machinery." 

The industrial revolution was not fully consummated until 
the same power which had transformed manufacturing proc- 
esses was applied to transportation. Robert Fulton's inven- 
tion of a successful steamboat in 1807 was an important step 
in this direction. It was not, however, until 1838 that the 
first steamship crossed the Atlantic, and it is only in our own 
day that ocean freights are beginning to be moved predomi- 
nantly by the power of steam. The invention of the loco- 
motive by Robert Stephenson in 1814 made possible the appli- 
cation of steam power to land transportation. The first Eng- 
lish railroad was opened for traffic in 1825 and placed Eng- 
land more than a decade in advance of other European 



THE LAISSEZ-FAIRE POLICY 15 

countries in her utilization of this important aid to industrial 
development. Cheapened means of transportation contributed 
quite as much as cheapened processes of manufacture to 
the marvelous growth of England's industries during the last 
century. They enabled her to ship her goods to the most 
remote quarters of the world and to import in exchange the 
cotton, wheat and other raw materials for whose production 
she was less well adapted than for manufacturing. These 
applications of steam power multiplied many fold the ad- 
vantages which England derived from her abundant supplies 
of coal and iron and helped to confirm her possession of the 
title of ' ' mistress of the sea, ' ' which she had acquired toward 
the close of the seventeenth century. 

§ 10. One of the principal effects of the industrial revolu- The 
tion was a radical change in governmental policy in Eng- l-aissez- 

land. As one invention followed another industrial conditions ^ ,. 

Policy. 
were so modified that the old regulations ceased to be effectual. 

Specifications in regard to the qualities and the prices of goods 
were obviously inapplicable when methods and costs of pro- 
duction were changing so rapidly. Equally futile were rules 
in regard to periods of apprenticeship and rates of wages. 
Eealization of this fact came only gradually to members of 
Parliament, and it was several years after Adam Smith formu- 
lated the arguments against governmental regulation and in- 
terference that have now become classic before the policy of 
non-interference or laissez-faire was adopted. In his " In- 
quiry into the Nature and Causes of the Wealth of Nations, ' ' 
published in 1776, Adam Smith describes this policy as fol- 
lows :* ' ' All systems, either of preference or restraint . . . 
being taken away, the obvious and simple system of natural 
liberty establishes itself of its own accord. Every man, as 
long as he does not violate the laws of justice, is left per- 
fectly free to pursue his own interest in his own way, and to 
bring both his industry and capital into competition with 
those of any other man or order of men. . . . According to 
the system of natural liberty, the sovereign has only three 
duties to attend to; . . . first, the duty of protecting the so- 

* End of Chapter IX., Book IV, 



16 RISE OF MODERN INDUSTRY IN ENGLAND 



Abolition 
of Old Re- 
strictions. 



eiety from the violence and invasion of other independent 
societies ; secondly, the duty of protecting, as far as possible, 
every member of the society from the injustice or oppression 
of every other member of it, or the duty of establishing an 
exact administration of justice; and, thirdly, the duty of 
erecting and maintaining certain public works and certain 
public institutions, which it can never be for the advantage of 
any individual or small number of individuals to erect and 
maintain; because the profit could never repay the expense 
to any individual or small number of individuals, though it 
may frequently do much more than repay it to a great 
society. ' ' 

The conversion of a majority of the members of Parliament 
to belief in the laissez-faire policy in reference to wages, ap- 
prenticeship and the other matters regulated by the Eliza- 
bethan Statute of Apprentices occurred during the closing 
years of the struggle against Napoleon. In 1811 a Select Com- 
mittee of the House of Commons reported that " no interfer- 
ence of the legislature with the freedom of trade, or with the 
perfect liberty of every individual to dispose of his time and 
his labor in the way and on the terms which he may judge 
most conducive to his own interest, can take place without 
violating general principles of the first importance to the 
prosperity and happiness of the community." Acting upon 
this view in 1813, Parliament responded to a petition demand- 
ing the enforcement of the clause of the Statute of Appren- 
tices which required justices of the peace to fix wages, by re- 
pealing that part of the law. Its attention was next directed 
to the apprenticeship clause of the Act, and in the following 
year, notwithstanding the opposition of many workingmen, it 
also was repealed. Other legal restrictions were removed in 
subsequent years {e.g., the East India trade was made free in 
1813; the restrictions on emigration were abolished in 1824; 
restrictive features of the poor law were amended in 1834) and 
the way was prepared for the repeal of the tariff restrictions 
on foreign trade finally effected in 1846. With that measure 
the last vestige of the policy of national regulation devised by 
the statesmanship of Elizabeth and her successors disappeared. 
It would be a mistake to conclude, however, that the laissez- 



THE FACTORY SYSTEM 17 

faire policy was ever, even for a few years, in full operation in 
England. As old regulations were abolished, humanitarian 
considerations secured the enactment of new ones designed 
less to further the interests of business than to protect the 
weaker classes in the community, children and women, from 
overwork under insanitary conditions. These new regulations, 
usually referred to as " labor laws," have now assumed an 
importance which entitles them to separate consideration 
(Chapter XXX.). 

§ 11. The substitution of expensive power machinery for Rise of 
the simple tools and implements previously used in all t^^ Factory- 
branches of industry ushered in the present " factory sys- "y^*®"*- 
tem." The leading characteristics of this system are so 
familiar that it will be necessary merely to indicate the changes 
which it made in the situation of the laboring population of 
England. Previous to the industrial revolution it was cus- 
tomary for artisans to own their tools and to carry on their 
work either in their own homes or in small adjacent shops. 
The master workman was assisted by a few journeymen and 
apprentices, but in most trades there was no wide gulf be- 
tween him and them. All belonged to the same social class. 
The work done was more often to meet orders given in ad- 
vance than to supply the general market, and consequently 
the risk of loss through misdirected production was small. In 
some trades, and notably in the textile industry, a class of 
middlemen had arisen who supplied the raw material to ar- 
tisans and paid them at stipulated rates for turning it into 
finished products. This arrangement relieved artisans of the 
trouble of seeking their own raw material and of dealing 
directly with consumers, but it did not alter materially their 
relation to their work or to those who assisted them. Still 
another characteristic of the time was the practice of com- 
bining two or three occupations. The families of farm laborers 
usually had spinning wheels, and added to the family income 
in winter by making yarn. Weavers' families, on the other 
hand, usually had garden patches about their homes, and pro- 
duced for themselves in summer much of the food which they 
required. In these ways the dependence of different families 
and of different localities upon single industries, which is so 



18 RISE OF MODERN INDUSTRY IN ENGLAND 

characteristic of the present organization of industry, was 
lessened. 
Its Conse- The introduction of power machinery broke up these simple 
quences. arrangements. To use^^ch machinery economically it was 
necessary to employ dozens, even hundreds of hands under the 
same roof. Moreover, the machinery and the factory build- 
ing, in which it was installed, were too costly to be owned by 
the workers themselves. Their use brought forward a new 
class of " capitalist employers," who were widely separated 
from their employees, and were apt to look upon the latter 
very much as they looked upon the material instruments of 
production which they employed. Finally, the new machine 
processes of production called for different industrial qualities 
than those which had been at a premium when production was 
mostly by hand. The skill of the master craftsman was now 
rendered of small value by the perfection of well-nigh auto- 
matic machines which even children could control. As a con- 
sequence whole classes of the population, which were previously 
in comfortable circumstances, were deprived of their ability 
to earn even a bare subsistence, and other classes, for whose 
labor there had been previously little demand, found their 
position much improved. A further result of the introduc- 
tion of power machinery was a change in the location of in- 
dustrial centers. From an early period the eastern and 
southern counties of England had been the seats of the coun- 
try's principal industries. But both water power and coal 
were lacking in these regions while found in abundance in 
the northern and western counties. The result was a great 
shifting of industries to the north and west. This shifting of 
the centers of industry imposed terrible hardships upon the 
sections which were waning in industrial importance, from 
the consequences of which some of the counties of England 
have not even yet entirely recovered. 

The cheapened processes of production which were so ad- 
vantageous to the country as a whole, were, thus, the cause of 
much suffering to the working class. Their introduction 
served to widen the gulf between employers and employees, to 
make whole districts dependent for their prosperity upon the 
condition of single trades and to encourage the employment 



CONCLUSIONS 19 

of children and women, for whose labot there had been before 
little demand outside of the home. The problems which have 
arisen as a consequence of these changes still press for a solu- 
tion, not only in England, but in all progressive countries, 
and give perhaps its chief interest to the study of economics 
in our day. 

§ 12. To sum up this brief sketch of the rise of modern Conclu- 
industry in England: the course of development was from sions. 
local self-sufficiency in industrial matters and local regulation 
to an industrial organization of national scope, in which ques- 
tions of money and trade were prominent, and national regu- 
lation was the rule. Only within the last one hundred years 
has the system of industrial freedom been adopted. The in- 
stitutions and practices belonging to this last stage of develop- 
ment, now so familiar as to seem almost necessary, are none 
of them very old — compared with the age of industrial so- 
ciety — and are all of them on trial, and likely, in the course 
of time, to be found unfitted to new industrial conditions, and 
to be discarded as were the institutions of the manorial sys- 
tem and the regulations of the Elizabethan period. Free com- 
petition, which seems to the modern mind so essential to the 
continuance of prosperous industrial activity, was almost un- 
known in medieval England. Private property, at least in 
agricultural land, hardly existed in its modern form. The 
granting of monopolies, which is so repugnant to the modern 
sense of justice, was almost as common in the days of Eliza- 
beth as is the granting of charters of incorporation to-day. 
Present practices and institutions have been adopted because 
they suit the needs of the time ; but as surely as conditions are 
changing and new needs are becoming dominant, practices and 
institutions must also change. 

That industrial relations and institutions are subject to 
change and development is the first and most important lesson 
of economic history. The second, and almost equally im- 
portant, lesson is that the range of the changes that may 
occur and the degree of development that may be looked for- 
ward to are indefinitely great. We have seen how different 
were the conditions in England a thousand years ago from 
those which we know to-day. But a period of a thousand years 



20 RISE OF MODERN INDUSTRY IN ENGLAND 

is only a brief chapter in human history. There is no means 
of determining at what period man first emerged as a tool- 
using animal ; but fist-hatchets, the most primitive known- 
form of human tool, are believed by geologists to have been 
in use two hundred thousand years ago. In comparison with 
the age of man, our English ancestors of the eleventh century 
are thus almost our contemporaries. There is no means of 
determining how long man will continue to live upon the 
earth ; but we have every reason to believe that it will be for 
two hundred thousand years longer, or even more. Changes 
as great as that from the manorial system to the system of 
freedom of industry and enterprise may occur over and over 
again in this time. In fact, so great are the possibilities of 
development, that we are justified in believing that any form 
of industrial organization, or any institution, that would 
prove truly desirable for the mass of men, will also be found 
to be attainable. It is with this conviction that the student 
of economics should approach the consideration of the prac- 
tical problems of his own day. 

REFERENCES FOR COLLATERAL READING 

* Ashley, English Economic History, 2 vols.; *Cheyney, Industrial iuid 
Social History of England, Chaps. I.-VIII. ; Gibbins, Industry in 
England; * Price, Short History of English Commerce and Industry; 
Warner, Landmarks in English Industrial History; Rogers, Six Cen- 
turies of Work and Wages, and The Industrial and Commercial History 
of England; Cunningham, Growth of English Industry and Commerce, 
2 vols.; Millies, From Gild to Factory; Beard, The Industrial Revolu- 
tion. 



CHAPTER II 
INDUSTRIAL EXPANSION OF THE UNITED STATES 

§ 13. The story of the settlement of different portions of The 
North America by colonists from different lands, of the mag- Colonial 
nificent distances and the differences in institutions and ideas ^"° " 
which long held them apart, and of the common interests and 
the common cause, first against the French and Indians, and 
then against the English, which at last brought them together 
and cemented them into a nation under the Constitution of the 
United States (1789), has been too often told to need repeti- 
tion. From its very nature, as a new country with unbounded 
natural resources in virgin land and forests, the United States 
was predisposed to extractive industries. The earlier settlers 
established themselves along the coast as farmers and Indian 
traders. As the Indians were driven back into the wilderness, 
adventurous whites took up the business of hunting and trap- 
ping and acted as pioneers in the westward movement char- 
acteristic of the development of the country during the last 
century. ^ 

During the seventeenth and eighteenth centuries, the Amer- 
ican farmer made for himself most of the things that he re- 
quired. His food was the produce of his farm or game from 
the neighboring forest. For clothing he used the skins of 
animals and homespun cloth. His house was made of rough- 
hewn logs. Only his gun and some of his tools and implements 
were purchased, and these were mostly imported from Eng- 
land. One important branch of manufacturing alone was de- 
veloped during colonial times, that is, ship-building, which 
early established itself in New England, and continued to be 
a leading industry in that section until wooden vessels were 
superseded by those of iron. 

The industrial institutions and ideas which were fostered by 
colonial conditions may be easily surmised. Living in com- 

21 



22 INDUSTRIAL EXPANSION OF UNITED STATES 



Liberty, 

Private 

Property 

and 

Equality. 



parative isolation and enjoying almost complete industrial in- 
dependence, the colonists came to regard liberty as one of their 
dearest possessions. To direct one's life and activities as one 
pleased came to be thought of as an inherent right with which 
no such extraneous thing as government should interfere. The 
abundance of free land and the importance to the first settlers 
of extending the cultivated area as rapidly as possible so that 
the menace of Indian massacre might be pressed farther and 
farther into the interior, made the system of private property 
in land seem natural, if not inevitable. From an early period 
settlers were permitted in nearly all of the colonies to acquire 
on easy terms the absolute ownership of large estates. As long 
as equally promising land remained open to the border pioneer 
there seemed nothing inconsistent in this policy with the ideal 
of equality, which was fostered by the similarity of the condi- 
tions under which most families lived and supported them- 
selves. This ideal showed itself in connection not only with 
social usages, but also with the political organization of the 
country. Short terms and rotation in office, which are charac- 
teristic of American public life, have from the first been de- 
fended in the popular consciousness on the ground that any 
good American citizen is competent to serve his country in 
any capacity. 

Experience with the thefts and depredations of the lawless 
characters that are always found in pioneer communities made 
the colonists peculiarly alive to the sacredness of property. It 
was taken for granted that property was justly acquired, and 
governmental machinery was largely devoted to protecting 
people in the use and enjoyment of their possessions. Thus, in 
the bills of rights which were generally appended to the con- 
stitutions adopted by the states after independence was 
achieved, life, liberty and property are characterized as the 
three fundamental and inalienable rights of American citizens. 
In exalting the rights of property the colonists were not so 
much breaking with the institutions which they had brought 
with them from the Old World as giving greater prominence 
to familiar ideals. By so doing they paved the way for an 
industrial civilization which has been marked thus far by in- 
tense individualism in thought and practice. 



THE NATIONAL INDUSTRIAL IDEAL 23 

In conflict with the ideals of liberty and equality was the Slave v. 
demand arising from the abundance of fertile land for a large ^^^^ Labor, 
laboring population. To satisfy this need Negro slavery was 
early introduced into the southern colonies, where conditions 
of soil and climate made slave labor profitable. The northern 
colonies resorted to the system of importing white servants 
from Europe under contracts (indentures) which required 
them to work for a certain number of years in return for their 
passage money. Where slavery flourished manual labor itself 
soon came to be despised by the free inhabitants, so that slaves, 
who were at first merely a convenience in such sections, became, 
with the progress of time, an economic necessity. The system 
of indentured labor had no such serious consequences. At 
first, a valuable supplement to the wages system which was 
carried on side by side with it in the northern colonies, it was 
given up entirely early in the nineteenth century, when easier 
ways were found of securing from Europe the much-needed 
working force. The diverse social, political and economic 
ideals which North and South owed to their contrasting labor 
systems were the root cause of the attempt of the Southern 
States to secede, and of the terrible Civil War through which 
the Union was saved and through which, incidentally, slavery 
was abolished. Since the issue of the Emancipation Proclama- 
tion in 1863 the wages system has been introduced in one form 
or another into all sections, until it has become the character- 
istic labor system of the whole country. 

§ 14. When the united colonies declared their independence The 

of Great Britain and formed themselves into the United States, National 

the industrial ideal of most of the revolutionists was an agri- ,, , 

Ideal, 
cultural community. Appreciating the vast extent of the 

undeveloped resources of the country and the superior advan- 
tages of England for manufacturing, the founders of the Re- 
public counted upon a mutually advantageous trade, consisting 
of the exportation of raw products and the importation of 
manufactured goods, as one of the conditions to national 
prosperity. England's own policy had much influence in giv- 
ing a different direction to national ambition. Through her 
restrictive measures she made trade on equal terms between the 
two countries impossible. The result was that even before the 



24 INDUSTRIAL EXPANSION OF UNITED STATES 

Federal Constitution was adopted some of the states, such as 
Massachusetts and Pennsylvania, had entered vigorously on 
the policy of developing home manufactures. Through the 
influence of the representatives of these states the first na- 
tional tariff act, passed in 1789, contained distinct intimations 
that the building up of manufactures within the country was 
one of the objects aimed at. Alexander Hamilton's famous 
" Report on Manufactures," submitted to Congress in 1792, 
clearly presented and defended the ideal of national industrial 
independence, and when the United States was involved in 
1806 in the European struggle, which had up to that time 
redounded to its advantage, and was led, in 1812, to take 
up arms against Great Britain in defense of its rights upon 
the high seas, this idea had gained many adherents. The 
tariff acts of 1816, 1821 and 1828 reflect clearly the new am- 
bition to build up all desirable industries within the confines 
of the United States, and to reduce foreign trade from the 
position of the source of manufactured necessaries to that of 
an outlet for surplus products. During the first three decades 
of the nineteenth century American cotton and woolen manu- 
factures were developed to a point where they compared not 
unfavorably with the same industries in Great Britain. The 
great inventions, which were described in the last chapter, 
were introduced, and in some cases improved upon, and the 
water-power furnished by the swift-flowing streams of New 
England and the Middle States was utilized. Iron and steel 
industries developed more slowly, owing to ignorance of the 
coal and iron resources of the country. During this period 
the Southern States, which could not, because of their " pecu- 
liar institution," hope to develop manufactures of their own, 
quite reasonably objected to paying the higher prices needed 
to protect Northern manufacturers. Out of deference to the 
more important slavery issue, a compromise was effected in 
1832 which resulted in lower protective duties until just before 
the outbreak of the Civil War. The withdrawal of the South 
from representation in the Federal Government during that 
struggle, and the thinly veiled hostility of some of the coun- 
tries of Europe to the side of the North, caused a great revival 
of the ideal of national industrial independence. Opinions dif- 



CHARACTERISTICS OF UNITED STATES 25 

fer as to whether the protective tariffs and other measures that 
were adopted in the effort to realize this ideal have been bene- 
ficial to the country as a whole. That they have been potent in- 
fluences in strengthening the bonds which united different sec- 
tions and in fostering a spirit of national as distinct from \^, '^ 
state patriotism, cannot, however, be doubted. 

§ 15. The purchase of the Louisiana Territory from France Physical 
in 1803 gave a new direction to national ambition. Hence- ^^^^^^^cter- 
forth, to extend their settlements until they stretched from sea ^ ., , 
to sea, became the definite purpose of the people of the United states 
States. The story of the way in which that purpose has been 
fulfilled constitutes the most characteristic chapter in the 
country's history. 

As rounded out by the annexation of Texas in 1845 and the 
subsequent purchases from Mexico, the United States contains 
nearly 3,000,000 square miles of territory, of which fully 
2,500,000 square miles enjoy a summer climate suitable for 
agriculture. Geographically this region falls roughly into 
four great divisions. The original colonies were confined be- 
tween the Atlantic Ocean and the Appalachian Mountains, 
which extend with but few interruptions all the way from 
Maine to Georgia. "West of these mountains the valleys of the 
Mississippi River and of the Great Lakes begin, and extend 
in an unbroken plain, embracing more than one-half of the 
area of the whole country, to the foot of the Rocky Mountains. 
From the Rocky Mountain range to the Sierra Nevada range 
in California and the Cascade range in Oregon and Washing- 
ton, is the third division of the country, an arid plateau broken 
by other mountain ranges and formerly designated as the 
Great American Desert. West of the Sierra Nevada and Cas- 
cade mountains, and extending to the Pacific Ocean, is the 
fourth geographical division. A brief account of the physical 
characteristics of these different sections will contribute to an 
understanding of the forces which have shaped the industrial 
expansion of the country. 

The region between the Atlantic Ocean and the Appa- The 
lachian Mountains is distinguished by excellent harbors and Atlantic 
numerous rivers and streams suitable for navigation and for Seaboard, 
use as sources of water-power. The land of this section is 



26 INDUSTRIAL EXPANSION OF UNITED STATES 



The Middle 
West. 



The Great 
American 
Desert. 



The Far 
West. 



fairly good and, in consequence of the growth here of many of 
the largest manufacturing and commercial cities of the coun- 
try, has been more highly cultivated than that of sections more 
distant from profitable markets. 

The Mississippi Valley and the Valley of the Great Lakes 
form the great agricultural section of the United States. Be- 
sides being very level, in consequence of glacial action at an 
earlier period, this region has a rich soil and is well watered 
by the clouds which rise off the Gulf of ]\Iexico and are 
deflected east by the Rocky Mountains. Its natural advan- 
tages for water transportation are even more remarkable. It 
is estimated that the Mississippi and its tributaries, the Ohio 
and the Missouri, are navigable for over 10,000 miles of their 
extent, while for nearly half that distance they are large 
enough to carry vessels of a considerable size. The Great 
Lakes offer even better facilities for transportation, although 
over a shorter course. As supplemented by the canals connect- 
ing Lake Superior with Lake Huron and Lake Erie with the 
Hudson River and with Lake Ontario, these great bodies of 
water make possible continuous navigation for a distance of 
more than 2000 miles. As outlets for the agricultural and 
mineral products of the Northwest their importance can hardly 
be overestimated. 

The western border of the Mississippi basin suffers from 
the same scarcity of rainfall that has given its name to the 
Great American Desert, and should really be treated with that 
section in an economic classification. This arid region is 
nearly 1000 miles wide at the northern border of the United 
States, but narrows to 500 miles on the Mexican frontier. Its 
total area is quite one-third that of the whole country. The 
soil of this vast territory has been found to be exceedingly 
fertile in those places where artificial irrigation can be em- 
ployed, but even the most liberal estimates make such sections 
but a fractional part of the whole region. So far as can be 
foreseen the greater portion of it must remain useful only for 
its mineral deposits and for cattle and sheep grazing. 

The country bordering on the Pacific Ocean has a character 
peculiar to itself. Its southern section enjoys a semi-tropical 
climate and is suited to the cultivation of oranges, lemons, 



THE NEW POSSESSIONS 27 

olives and similar fruits. A lower mean temperature adapts 
the region farther to the north and extending all the way to 
Puget Sound, to the growth of wheat and other grains. The 
most serious natural defect of this region is a lack of navigable 
rivers and of harbors. The construction of canals and of 
breakwaters may in time offset these disadvantages and make 
this one of the most prosperous agricultural sections of the 
country. 

Detached from the compact area that has been described are The New 
the outlying territories more recently acquired by the United 1*08868810118. 
States by purchase, by annexation and by conquest. Of these 
the principal are: Alaska (area, 531,000 square miles), Hawaii 
(6740 square miles), Puerto Rico (3600 square miles) and the 
Philippines (120,000 square miles). Alaska is valuable for 
its mineral deposits and its fisheries. The principal product of 
Hawaii is sugar, for which there is a ready and ample market 
in the United States. Puerto Rico also produces sugar in con- 
siderable quantities, but its chief crops are coffee and tobacco. 
Both islands are sufficiently near the United States to become 
Americanized, and are valuable as coaling stations for the 
nation 's growing fleet of merchant vessels. The chief products 
of the Philippines are hemp, sugar, copra and tobacco. The 
first two are much needed in the United States, and may be- 
come the basis for an extensive trade. 

§ 16. The foreign complications in which the country began Develop- 
to be involved shortly after the acquisition of Louisiana "^®"* °^ 

checked somewhat its internal development during the first ^. J^ .,.' 

. „ , . , tion Facili- 

two decades of the century. The long period of peace which ^jgg_ 

ensued was very favorable to the progress of settlement, and 
about 1820 the era of westward expansion began in good ear- 
nest. As already indicated, the first great obstacle to westward 
immigration was the Appalachian Mountains. Building roads 
over these mountains and through the dense forests which sur- 
rounded and covered them was a task of such seriousness that 
state aid had to be called in for its accomplishment. Even 
after roads were built, travel continued to be slow, difficult and 
dangerous. The need of an easier route to the Middle West 
was keenly felt, and led to the projection of the Erie Canal to 
connect the Hudson River at Albany with the eastern end of 



28 INDUSTRIAL EXPANSION OF UNITED STATES 



Growth of 
Kailroads. 



Crossing 
the Conti- 
nent. 



Lake Erie. The canal was completed and opened for traffic in 
1825, and its superiority over the rough wagon roads as a 
means of conveying settlers and goods to and from the towns 
that were springing up about the Great Lakes and along the 
Ohio and Mississippi was immediately shown in the impetus 
which it gave to emigration from the Eastern States. 

While attention was being given to the building of better 
roads and of other canals in different sections of the country, 
the railroad and steam locomotive were introduced from Eng- 
land, the first steam locomotive being used in 1829. This event 
marks a turning point in the history of internal improvements. 
In a few years there was in progress a veritable stampede for 
railroad construction at government expense. The states vied 
with each other to take the lead in this development, and 
bonds to secure the needed funds were issued so recklessly that 
by 1845 even so rich a commonwealth as Pennsylvania was 
brought to the verge of bankruptcy. The reaction which fol- 
lowed was as violent as had been the original mania. Canals 
and railroads were disposed of for a fraction of their cost and 
taxation was resorted to to make up the deficit. The net re- 
sult of the policy of internal improvements at state expense 
was that the country secured the railroads indispensable to its 
development at an earlier period than would have been possible 
had conservative counsels ruled at this period. In comparison 
with the 229 miles of railroads built before 1832, there were in 
operation by 1840, 2818 miles; by 1850, 9021 miles, and by 
1860, 30,626 miles. Without the railroads the marvelously 
rapid settlement of the Mississippi Valley could hardly have 
taken place. 

Before the outbreak of the Civil War plans had been 
matured for the construction of a transcontinental railway, 
and appeal had been made for Federal aid to carry out the 
project. The idea was revived as soon as the war closed, and 
with the aid of a Government loan and a substantial grant of 
land the Union and Central Pacific Railroads were finally 
connected. They were opened for through traffic in 1869, and 
served as a valuable aid to the settlement of the Far West. 
Other transcontinental lines were pushed over the Rocky 
Mountains at other points, and at the close of the century 



IMPORTANCE OF RAILROADS 29 

there were six different railroads crossing the country from 
east to west, and able to convey passengers from New York 
to San Francisco in less time than had been required a hun- 
dred years earlier to go from New York to "Washington. To 
aid in the building of these roads the Federal Government 
made land grants aggregating millions of acres and pledged 
its credit for millions of dollars, nor was their construction 
accomplished without wholesale corruption and misappropria- 
tion of funds. It must be conceded, however, that in this 
case, as in the case of the state-aided railroads, the ultimate 
benefit to the material development of the country far ex- 
ceeded the loss to the public purse. 

Already, by 1861, the railway mileage of the United States importance 
was equal to that attained in 1900 by any single European of Rail- 
state. In 1910 the total mileage for the United States was roads. 
240,000, as compared with 400,000 miles for the rest of the 
world, of which 207,000 were in Europe. The increase in the 
business of the railroads in recent years has been even more 
remarkable than the increase in their mileage. Thus the 
number of ' ' passenger miles ' ' * reported by all of the roads of 
the country increased in round numbers from 11,800,000,000 in 
1890 to 32,300,000,000 in 1910, or 173 per cent, and the num- 
ber of " ton miles " * reported from 77,200,000,000 in 1890 to 
255,000,000,000 in 1910, or 230 per cent. When it is consid- 
ered that it is" good average hauling over a country road, for 
a man and a team to move one ton twenty miles in a day, 
some conception may be formed from these figures of the 
importance of the service which the railroads of the country 
render. In 1910 they carried as much freight as could have 
been moved on this basis by 34,931,507 teams working every 
day in the year. To accomplish the work in this way would 
have required more teamsters than the entire male population 
of the country over sixteen years of age. No single fact so 
well illustrates the rapid industrial expansion of the United 

* These are the units usually employed to compare the businesses of 
different transportation systems. " Passenger miles " mean the number 
of passengers carried one mile; "ton miles," the number of tons car- 
ried one mile. Thej' are determined by adding together all the miles 
traveled by all of the passengers and all the miles covered by all 
of the tons of freight. 



30 INDUSTRIAL EXPANSION OF UNITED STATES 

States as this remarkable development of its transportation 

facilities. 
Growth of § 17, The following table shows the growth of the popula- 
Population. ^-Q^ Qf ^j^g United States by decades from 1790 to 1910 : 







Increase 


Year 


Population 


per cent. 


1790 


3,929,214 




1800 


5,308,483 


35.1 


1810 


7,239,881 


36.4 


1820 


9,638,453 


33.1 


1830 


12,866,020 


33.5 


1840 


17,069,453 


32.7 


1850 


23,191,876 


35.9 


1860 


31,443,321 


35.6 


1870 


38,558,371 


22.6 


1880 


50,155,783 


30.1 


1890 


62,947,714 


25.5 


1900 


75,994,575 


20.7 


1910 


91,972,266 


21.0 



These figures do not include the populations of Alaska, 
Hawaii, Puerto Rico and the Philippines. The additions to 
be made under these heads for 1910 made the population of 
the whole country over 100,000,000. 

In comparison with the rates at which the populations of 
other countries have grown during the period covered, the 
growth of the United States has been astonishing. In fact, 
history furnishes no parallel on an equal scale to the increase 
from 1790 to 1860, when the total population doubled three 
times. The marked falling off in the percentage of increase 
since 1860 is indirect proof that the chief incentive, to the 
rapid growth of the preceding years was the abundance of 
fertile and practically free land which was open to settlement. 
It is also reassuring to those who feared lest the country 
should be burdened with a superabundant population. 
The Foreign Prom the beginning of its history the United States has 
and Native Q^^y^ year attracted large accessions to its population from 
abroad. From 1820, when statistics of immigration first be- 
gan to be kept, to 1910, nearly 28,000,000 immigrants came 
to the country. The largest number in a single year previous 
to 1903 was 789,000 in 1882. The number continued large, 
averaging about 500,000 each year, until 1894, when it was 



DISTRIBUTION OF THE POPULATION 31 

reduced by the industrial depression. The lowest number in 
recent years was reached in 1898, when only 229,000 immi- 
grants were reported. By 1902 the number had increased 
again to 649,000, and in 1907 it was 1,285,000. Declining in 
1908 and 1909 on account of business depression, it was again 
in excess of 1,000,000 in 1910. 

No statistics of births and deaths for the country as a whole 
are collected, so it is impossible to compare directly the ' ' nat- 
ural increase, ' ' that is, the annual excess of births over deaths 
within the country, with the increase due to immigration. 
Some notion of the relative importance of these two sources 
of population is afforded, however, by the census comparisons 
of the native and foreign born. The enumeration for 1910 
showed that of the total white population, 68,400,000, or 84 
per cent, were native born, and 13,300,000, or 16 per cent, 
foreign born. During the decade from 1900 to 1910 the 
native born increased 21 per cent, while the foreign born 
increased 31 per cent. The census distinguishes also the 
native born white of foreign and mixed parentage. They 
aggregated in 1910 18,900,000, or 23 per cent of the white 
population. The native born of foreign and mixed parentage 
and the foreign born taken together constituted in 1910 over 
one-third of the total population of the country. 

Another element in the population which is of great sig- Negroes, 
nificance is the Negro. In 1910 9,800,000 persons, or 10.7 per 
cent of the people in the country, were "Negroes. This ele- 
ment increased from 1900 to 1910 11 per cent, while the white 
population increased 22 per cent. Should the white popula- 
tion of the country continue to increase twice as rapidly as 
the colored population, the " race problem " will gradually 
diminish in relative importance. 

§ 18. When the first census was taken in 1790, only 5 per Distribu- 
cent of the population was found west of the Appalachian tion of the 
Mountains. In 1900 nearly 60 per cent was so located. The I'opulation. 
progress of this westward expansion is indicated by the follow- 
ing statistics : From 1800 to 1850 the population of the North 
Atlantic States increased by 225 per cent, and that of the 
South Atlantic States by 105 per cent. In the same period 
the population of the North Central States increased from 



32 INDUSTRIAL EXPANSION OF UNITED STATES 



Race Prob- 
lem in 
South. 



The Tor- 
eign Born. 



only 51,000 to 5,400,000, and that of the South Central from 
only 335,000 to 4,300,000. In the later years of this period 
the settlement of the Far West was just beginning through 
the migration of gold seekers to California. From 1850 to 
1900 the population of these sections increased as follows: 
North Atlantic States, 144 per cent; South Atlantic States, 
123 per cent ; North Central States, 387 per cent ; South Cen- 
tral States, 227 per cent; Western States, from only 179,000 
to 4,100,000. As shown by the accompanying map, the most 
striking facts about the growth of population from 1900 to 
1910 were the continued rapid expansion of the far western 
states and the very slow growth of the agricultural states of 
New England and the Mississippi Valley. Washington, Okla- 
homa and Idaho more than doubled their populations in the 
decade. At the other extreme, New Hampshire and Vermont 
showed increases of less than 5 per cent; Missouri, an in- 
crease of only 6 per cent, and Iowa an actual loss of three- 
tenths of one per cent. The great task of giving to the 
Misssissippi Valley its quota of the population of the country, 
thus appears to be accomplished. At its present rate of ex- 
pansion, the Far West will soon have its quota also, and the 
westward movement that has characterized our national de- 
velopment from early colonial days will cease. 

§ 19. The distribution of the Negro and foreign-born ele- 
ments in the United States has given rise to special problems 
for the sections most affected. Only about one-eighth of the 
Negro population has withdrawn from the states where 
slavery flourished before the Civil War. In 1910, in two of 
these states — Mississippi and South Carolina — the Negroes 
outnumbered the whites. In four more of them — Georgia, 
Louisiana, Alabama and Florida — Negroes constituted over 
40 per cent of the population. In all of them the race prob- 
lem overshadows all others. 

The immigrants who come to the United . States settle for 
the most part in the North and West. In 1910 over 85 per 
cent of the total number of foreign-born whites were living in 
the North Atlantic and North Central States, and nearly 10 
per cent in the Western States. The states in which the for- 
eign born constituted over one-fourth of the population in 1910 



INCREASE OF POPULATION, 1900 TO IplO 



33 




of Cities. 



34 INDUSTRIAL EXPANSION OF UNITED STATES 

were: Rhode Island, Massachusetts, New York, Connecticut, 
North Dakota, Minnesota and New Jersey. If to the foreign 
born found in these states be added the native born of foreign 
parentage, the foreign element is even more conspicuous. 
Thus, in 1910, persons, one or both of whose parents were 
foreign born, constituted in North Dakota and Minnesota 71 
per cent of the population ; in Rhode Island, 69 per cent ; in 
Wisconsin, 67 per cent ; in Massachusetts, 66 per cent ; and 
in New York and Connecticut, 63 per cent. 
Growth Next to the westward movement, the concentration of pop- 

ulation in cities was the most striking tendency of the last 
century. In 1800 less than 4 per cent of the people of the 
country lived in cities of 10,000 inhabitants and upwards. 
This proportion had increased to 12 per cent in 1850. Since 
then the growth of cities has been so rapid that they contained 
in 1910 more than one-third of the total population of the 
country. A comparison of the last census with the three pre- 
ceding decennial enumerations indicates how rapidly the 
United States is moving away from the condition of an agri- 
cultural country with a predominantly rural population. In 
1880 only 29.5 per cent of the population lived in cities of 
2,500 or more inhabitants ; 70.5 per cent was rural. By 1890 
the proportion had changed to 36.1 per cent urban and 63.9 
per cent rural. 1900 found 40.5 per cent urban and 59.5 
per cent rural. Finally in 1910 46.3 per cent lived in cities 
and 53.7 per cent in the country. Since in that year some 8.8 
per cent of the population was returned as living in incor- 
porated places containing less than 2,500 inhabitants, the 
country had already passed the point when more than half 
of its people were town-dwellers and concerned with the eco- 
nomic problems that result from the crowding together of 
people in dense centers of population. The waning impor- 
tance of the country in comparison with the town is most in 
evidence in the extreme Eastern and the extreme Western 
sections of the country. In 1910, 83 per cent of the popula- 
tion of New England, 71 per cent of that of the Middle At- 
lantic, 53 per cent of that of the East North Central, and 57 
per cent of that of the Pacific States were urban. In the other 
sections the rural population still predominated. In New York 



NEW ISSUES IN UNITED STATES 35 

in 1910 more than half of the population of the state was found 
concentrated in New York City. 

A complicating aspect of the growth of cities in the United Foreign 
States has been the large foreign element which most of them ^°^" ^^ 
contain. In only fourteen of the fifty cities having more than ^ ^^^' 
100,000 inhabitants in 1910 did native whites of native paren- 
tage constitute as much as one-half of the population. In 
twenty-one of these cities, fifteen of which were in the New 
England and Middle Atlantic divisions, over two-thirds of the 
population consisted of foreign-born whites and their children. 
In ten of them, including New York (40 per cent), Chicago 
(36 per cent), and Boston (36 per cent) the foreign born 
alone constituted more than one-third of the population. This 
large foreign element in American municipalities has added 
materially to the economic and political difficulties with which 
these rapidly growing centers of population have had to ' 
contend. 

§ 20. Up to the very recent past, the most absorbing eco- New Issues 
nomic interest of the people of the United States has been the Following- 
conquest of the vast territory and the vast natural resources ^ °^' , 

• T f mi - 1 quest of the 

which it has been their good fortune to possess. I his has continent 

given a materialistic trend to American civilization, which 
has caused unsympathetic foreign critics to describe Ameri- 
cans as a people entirelj^ absorbed in the pursuit of " the 
almighty dollar." Signs are not lacking that, as the con- 
quest of the continent is being achieved, Americans are giving 
more and more thought to questions connected with the uses 
of wealth and less and less to its mere acquisition. Allowing 
free scope to individual initiative and individual enterprise 
and confining governmental activity to the protection of prop- 
erty, without too much regard to the ways in which it may 
have been acquired, have proved excellent means of stimulat- 
ing the production of wealth. But the production of wealth 
largely fails of its purpose if its distribution is so unequal 
that much of it is assigned to a small group of millionaires, 
while the great majority of the people find it difficult to 
maintain themselves in reasonable comfort. Side by side with 
liberty and property, equality has all along been a national 
ideal. Until recently it has been believed that these three 



36 INDUSTRIAL EXPANSION OF UNITED STATES 

ideals, liberty, equality and property, were entirely compati- 
ble. It is clear from the literature of the day that the 
conviction is forming in the popular consciousness that in 
protecting liberty and property the government of the United 
States has neglected the interests of equality. Once formed, 
this conviction will be a powerful aid to the correction of 
abuses and injustices that have been tolerated only because 
their seriousness has not been understood. The movement 
for the conservation of natural resources, the demand for pro- 
tective labor laws, the measures taken to regulate the railroads 
and other public service corporations, and the dissolution of 
some of the most powerful of the trusts, all reflect the new 
spirit that is developing and that gives to some of the prac- 
tical economic problems to be considered in later chapters the 
intense interest of great moral issues. 

REFERENCES FOR COLLATERAL READING 

Lodge, A Short History of English Colonies in America; McMaster, 
History of the People of the United States, Vols. I. and II. ; *Wilson, 
Division and Reunion; Rand, Economic History since 1763; *Turner, 
The Significance of the Frontier in American History; *Bhaler, The 
United States of America, 2 vols.; ^Whitney, The United States. 



CHAPTER III 

INDUSTRIAL EXPANSION OF THE UNITED STATES 

{^concluded^ 

§ 21. Agriculture remains to-day, as it was in the colonial Progress of 

period, the dominant industry of the United States. This ^"''^ " 

. . ture. 

has been the natural result of the extensive area of fertile 

land vv^ith which the country is endowed, and its still relatively 
sparse population. Of its principal agricultural products, 
three, corn, white potatoes and tobacco, were indigenous to 
the New World. The first, because of the ease with which 
it may be grown on new land, has contributed more than 
any other plant to the material development of the country. 
In colonial days, corn, hay, wheat and potatoes were leading 
crops in the North ; corn, tobacco, rice and indigo in the 
South. With the invention of the cotton gin, a machine for 
separating the cotton seed from the cotton fiber devised by 
Eli Whitney in 1794, and of spinning machinery capable of 
treating the short-fibered variety of cotton which alone flour- 
ished on the mainland, that product began to be, as it has 
ever since remained, " king " in the Southern States; but 
corn, hay, wheat and potatoes continued to be the staples of 
the North. As cities arose truck and dairy farming to supply 
their needs became profitable. Meantime the pressing back 
of the Indians encouraged the keeping of stock, since this is 
practicable only in localities where property can be protected. 
Agricultural methods, both North and South, prior to the 
Civil War, were exhausting to the soil, and the wearing out 
of old lands was a strong incentive urging settlers to bring 
the superior soils of the Mississippi Valley under cultivation. 
The cheapness of land and the dearness of labor have been 
conditions favorable to the invention and use of labor-saving 
tools and machines. American farmers were from the first 
progressive. They were forced to devise methods better 
adapted to the conditions of a new country than those they 
brought with them from Europe. The invention of agri- 

37 



38 INDUSTRIAL EXPANSION OF UNITED STATES 

cultural machinery was especially stimulated during the Civil 
War, when the labor supply became even less adequate than 
before to the needs of the country. In this period many of 
the inventions were patented which have made American agri- 
culture so different from that of the Old World. The ten- 
dency of these improvements has been to increase the pro- 
ductiveness of American farming not so much for each acre 
cultivated as for each man engaged in cultivation. Only re- 
cently has attention begun to be given on any large scale to 
the problem of getting as much as possible out of each acre 
of land, because only recently has lack of land been felt as a 
serious hardship by the ambitious American farmer. 
Recent De- Since the close of the Civil War wheat cultivation has had 
velopments. ^ gj-gat development in the Northwest; the " corn belt " has 
been extended west of the Mississippi to the very borders of 
the arid region, and in that region itself cattle, horse and sheep 
grazing have become important industries. The extension of 
the " cotton belt " to include eastern Texas, and the rapid 
growth of the fruit industry in Florida and California are 
other changes of comparatively recent date. Meantime agri- 
culture in the more settled portions of the country has become 
diversified and rotations of crops, calculated to preserve the 
fertile properties of the soil, have been introduced. The rais- 
ing of green vegetables and small fruits and the keeping of 
cows, whose milk is sold in the city market, or converted into 
butter and cheese, are now chief interests to Eastern farmers. 
The present distribution of agricultural products in the 
United States is roughly indicated by the accompanying map. 
Important § 22. Among all of the products of the country corn still 
Crops: holds first place. Its relative importance in comparison with 

other agricultural staples is shown by the following table, 
based on statistics published by the United States Department 
of Agriculture: 

Average Annual Average Annual Price 

Crop of Total Crop 

1906-1910 1906-1910 

Corn ■- . . . 2,725,368,000 bu. $1,454,395,000 



Hay . 
Cotton 
Wheat 
Oats . 
Potatoes 



63,487,000 tons 681,637,000 

12,083,000 bales 670,284,000 

670,500,000 bu. 579,260,000 

943,994,000 bu. 367,108,000 

324,634,000 bu. 188,740,000 



MAP OF the: 

Showing approximately the Productive Ar; 




Reprinted from a rei 



FED STATES 

3al Agricultural and other Staples, 1912. 




u of statistics. 



IMPORTANT AMERICAN CROPS 39 

As the map indicates, the principal corn-producing states Corn, 
constitute a compact area, the " corn belt." In 1896 seven 
of these states — Iowa, Nebraska, Illinois, Kansas, Missouri, 
Indiana and Ohio — produced more than two-thirds of the 
country's crop. Since that year the agriculture of these 
states has become more diversified, and corn-growing has pro- 
gressed in other sections, but they still produce more than 
one-half of the total crop, and depend in large measure upon 
it for their prosperity. 

Hay, the second crop in importance, is produced in every Hay. 
part of the United States, and cannot be said to be localized 
in any particular region. The same is true of potatoes, and, 
in less degree, of oats. 

The production of wheat is also widespread, but the states Wheat, 
of the Northwest, Minnesota and the Dakotas, are so de- 
pendent on this crop that they are usually described as the 
'' wheat belt." Kansas, Washington, Illinois, Nebraska, 
Ohio, Missouri and Indiana are also large wheat pro- 
ducers in the order named. Together these ten states 
produced in 1911 more than two-thirds of the country's 
crop. 

Cotton is more rigidly confined to a particular region than Cotton, 
any other important agricultural product. Practically the 
entire crop of the country is raised in the eight states. North 
and South Carolina, Georgia, Alabama, Mississippi, Arkansas, 
Oklahoma and Texas. In all of them it is the important 
money crop of most localities, and prosperity ebbs and flows 
according to the size of the crop and the price. Texas, with 
its immense area, naturally leads in production, averaging 
from 1901 to 1910 nearly 3,000,000 bales a year, worth, with 
the seed, not far from $200,000,000. Georgia, Alabama, Mis- ■ 
sissippi and South Carolina follow in the order named, each 
producing from 1,000,000 to 2,000,000 bales a year in 
this period. A comparison of the cotton crops of recent years 
indicates that the center of production moved westward down 
to about 1900, when there was for the first time a smaller in- 
crease in the Texan crop than in the crops of the other cotton 
states. 

Although the aggregate amounts of the three great staples. 



40 INDUSTRIAL EXPANSION OF UNITED STATES 

corn, wheat and cotton, produced in the United States, have 
shown no tendency to diminish, they have not increased in 
recent years as rapidly as have the products of minor branches 
of agriculture ; nor has agriculture as a whole developed at 
the same rate as mining, manufacturing and transportation. 
If the present trend of development continues, it will not be 
long before agriculture has surrendered its place as the coun- 
try's dominant industry in favor of manufacturing. 
Progress of §23. During the seventeenth century iron mining devel- 
ining. oped in a small way in New Jersey and at other points where 
beds of ore were discovered. The cheapness of charcoal en- 
abled the Colonies to produce iron, not only for themselves, 
but for export, until the cheaper process of smelting by means 
of bituminous coal was invented. The Champlain ore dis- 
trict was discovered in 1801, and within a few years devel- 
oped into the chief seat of the iron industry. Notwithstand- 
ing the protective duty, charcoal iron competed at an increas- 
ing disadvantage with the imported bituminous product and 
the industry languished until 1839, when the problem of 
smelting ore by means of the anthracite coal that had been 
discovered in Pennsylvania was successfully solved. From 
this time on progress in the iron industry was rapid. In 
1844 T-shaped rails were first rolled in the United States, and 
in the same year iron ore was discovered on the shores of 
Lake Superior. In 1855 the output of anthracite pig iron 
exceeded for the first time that made from charcoal. The 
same year saw the invention in England of the Bessemer 
process, introduced nine years later in the United States, and 
the beginning of that wonderful development which has made 
ours the age of steel. The exploitation of the iron mines on 
Lake Superior proceeded slowly until after the close of the 
Civil War. It was not until 1869 that the output of bitumi- 
nous coal and coke iron exceeded that made with charcoal, and 
not until 1875 that it exceeded that made with anthracite coal, 
or that the seat of the iron industry was definitely transferred 
from eastern to western Pennsylvania. Progress in the iron 
and related industries was very rapid after 1880, as is 
shown by the following statistics of iron, steel and coal 
production : 





Pig Iron 


1880 


3,800,000 


1890 


9,200,000 


1900 


13,800,000 


1910 


27,300,000 



PROGRESS OF AMERICAN MINING 41 

Quantities of Iron, Steel and Coal Produced in the 

United States from 1880 to 1910 

(In tons of 2240 pounds) 

Steel Anthracite Coal Bituminous Coal 

1,200,000 28,600,000 38,200,000 

4,300,000 41,500,000 99,400,000 

10,200,000 51,300,000 189,700,000 

26,100,000 75,500,000 372,340,000 



In 1890 the United States surpassed Great Britain for the Iron. 
first time as a producer of pig iron, as she had as a producer 
of iron ore twelve years earlier. In 1899 the United States 
became also the leading coal-producing country of the world. 

Practically the entire output of anthracite coal is mined in Coal, 
northeastern Pennsylvania. That state also leads in the pro- 
duction of bituminous coal, being credited in 1910 with 134,- 
400,000 tons, or more than one-third of the total output for 
the country, in comparison with 55,000,000 tons for West 
Virginia, 41,000,000 tons for Illinois and 30,500,000 tons for 
Ohio. Nearly five-sixths of the bituminous coal produced in 
the country is mined east of the Mississippi. 

The chief source of iron ore continues to be the iron ranges iron Ore. 
adjacent to Lake Superior in Michigan, Wisconsin and Min- 
nesota. Together these states produced in 1910 36,000,000 
tons, or nearly two-thirds of the country's total output. 
Other large producers were Alabama, New York and Virginia. 
More than nine-tenths of the iron ore supply of the country 
is drawn from states east of the Mississippi. 

Next in importance to coal and iron among the mineral Gold. 
products of the United States are the metals, copper, gold, 
silver, lead and zinc, and the commodities allied to coal, 
petroleum and natural gas. The country's output of gold 
was insignificant until that metal was discovered in California 
in 1848. According to the statistics given by the United 
States Mint, the production of 1853 exceeded 3,000,000 fine 
ounces. It did not again attain that amount until 1898, when 
Colorado, with an output of over 1,000,000 ounces, had be- 
come the leading center of production. Since that year Col- 
orado has again fallen behind California as a producer of 
gold, each being credited in 1910 with slightly over 1,000,000 



42 INDUSTRIAL EXPANSION OF UNITED STATES 



ounces out of the total of 4,660,000 ounces produced by the 
whole country. 

Silver. The silver resources of the United States did not begin to 

be uncovered before 1860, when some rich deposits were dis- 
covered in Colorado. The maximum output was attained in 
1892, when 63,000,000 fine ounces were produced. Since that 
year there has been some decline in the industry in conse- 
quence of the great fall in the gold price of the metal. The 
leading silver-producing states in 1910 were Nevada, Mon- 
tana and Utah, each of which contributed about one-fifth to 
the country's total of 30,850,000 ounces. Colorado which in 
1900 led in silver as in gold mining contributed only one- 
seventh to the total that year and Idaho one-eighth. 

Copper. The development of the copper industry of the country has 

proceeded slowly, although that metal now stands next to iron 
among America's mineral products. The copper mines on 
Lake Superior in Michigan, formerly worked by the Indians, 
began production in a small way in 1854. For nearly a gen- 
eration these mines were the principal sources of supply, and 
it was deemed necessary to protect the infant industry with 
a duty on imported copper. In the early eighties the copper 
resources of Montana were discovered, and by 1890 that state 
had taken the lead as a copper producer. Next to Montana 
and Michigan in copper productfon stand Arizona, Colorado 
and California. The progress of copper production has been 
continuous since the close of the Civil War. The output in 
1870 was estimated at 12,600 tons. By 1880 it had increased 
to 27,000 tons; by 1890 to 116,000 tons; by 1900 to 271,000 
tons, and by 1910 to 482,000 tons. The United States now 
produces more copper than all the rest of the world put 
together. 

Petroleum. The production of petroleum dates from 1859. It was first 
discovered in western Pennsylvania, and wells have since been 
bored in Ohio, Indiana, New York, West Virginia, Colorado, 
California, Texas and other states. In 1880 the total output 
of the country amounted to 26,290,000 barrels. Progress since 
that year has been steady, and in 1910 the total output 
amounted to 209,560,000 barrels, of which nearly one-half 
was exported, 



PROGRESS IN MANUFACTURING 43 

The production of natural gas was begun in 1872, also in Natural 
western Pennsylvania. Pennsylvania, Ohio and New York Gas. 
are still the principal sources of supply. The value of the 
natural gas output increased from $13,000,000 in 1895 to 
$70,756,000 in 1910, but there are indications that the indus- 
try must be short-lived. 

The following table indicates the relative importance of the Principal 



[ing mineral products of the United States 


in 1910: 


Mineral 








Products, 


Quantities and Values of 


Mineral Products 


of the 


1910. 


United States in 1910 








Quantity 


Value 




Coal: Bituminous (short tons) 


417,100,000 


$469,280,000 


/ 


Anthracite (long tons) 


75,400,000 


160,280,000 




Pig iron (long tons) 


27,300,000 


425,120,000 




Copper ( pounds ) 




1,080,000,000 


137,180,000 




Gold (troy ounces) 




4,657,000 


96,270,000 




Petroleum ( barrels ) 




209,500,000 


127,900,000 




Silver (troy ounces) 




57,138,000 


30,850,000 




ISTatural gas 






70,760,000 




Lead (short tons) . 




372,000 


32,760,000 




Zinc (short tons) 




252,000 


27,280,000 





In that year the United States led all countries in the pro- 
duction of coal, iron, copper, petroleum, natural gas and lead. 
Primacy in the production of the precious metals has been 
wrested from it, as regards gold by British South Africa and 
as regards silver by Mexico. In all the other products, how- 
ever, its ascendency promises to increase rather than to 
diminish in the next few decades. Its greater area should 
enable it to produce more of some of these minerals than 
other countries, but its ability to produce more of all of 
them is a striking evidence of the wealth of its natural 
resources. 

§ 24. The development of manufacturing in the United I'rogress in 
States has been part of a general movement in which all pro- Manufactur. 
gressive countries have shared, consisting in the introduction 
of machinery to perform tasks that could not be performed at 
all or not nearly so cheaply by hand labor. The mechanical 
inventions of the nineteenth century, some of which have 
already been described, completed the industrial revolution 
begun in the eighteenth, by causing machinery to take the 



44 INDUSTRIAL EXPANSION OF UNITED STATES 

place of hand labor in nearly every branch of industry. Most 
important were inventions connected with the generation and 
utilization of electrical power. The telegraph (1837), the 
telephone (1876), the dynamo (1857), the electric light 
(1878) and the electric car (1881) are a few of the inven- 
tions which promise to make the twentieth century the age 
of electricity as the nineteenth was the age of steam. Up to 
the present time the generation of electricity has required 
steam or water power. It has been, therefore, a secondary 
rather than a primary motor, and important because of the 
ease with which it can be transmitted great distances and 
applied in just the amount needed for each operation. By 
means of electricity sources of power, such as the Falls of 
Niagara, which were too great to be applied directly to the 
rotation of machinery, have been turned to a variety of uses. 
The power of Niagara now not only propels the machinery 
of numerous manufacturing establishments, but furnishes 
electric lights and force to run electric cars to towns within 
a radius of one hundred miles and more. In the West water 
power is also used to generate electricity to aid in mining 
operations at great distances. 

The manufacturing progress of the United States is roughly 
indicated by the figures in the following tables, based on the 
census returns : 

Statistics of Manufactures in the United States, 18-'i9 to 1899 





Number of Es- 




Total 






tablishments 


Total 


( Average ) 


Value of 




Reporting 


Capital 


Wage-earners 


Products 


1849 


123,025 


$ 533,000,000 


957,000 


$1,019,000,000 


1859 


140,433 


1,010,000,000 


1,311,000 


1,886,000,000 


1869 


252,148 


2,118,000,000 


2,054,000 


4,232,000,000 


1879 


253,852 


2,790,000,000 


2,733,000 


5,370,000,000 


1889 


355,405 


6,525,000,000 


4,252,000 


9,372,000,000 


1899 


512,191 


9,814,000,000 


5,306,000 


13,000,000,000 



Hand and neighborhood mechanical employments Were 
included among manufactures in these returns. Since 1899 
statistics relating to manufactures proper have been sepa- 
rately compiled as follows: 



MANUFACTURES OF IRON AND STEEL 45 

Statistics of Manufactures in the United States, 1899 to 1909 





Number of Es- 


Total 






tablishments Total 


( Average ) 


Value of 




Reporting Capital 


Wage-earners 


Products 


1899 


207,514 $ 3,975,000,000 


4,713,000 


$11,407,000,000 


1904 


216,180 12,676,000,000 


5,468,000 


14,794,000,000 


1909 


268,491 18,428,070,000 


6,615,000 


20,672,000,000 



The most striking fact revealed by the last table is that 
while the number of establishments and of wage-earners in- 
creased 30 and 40 per cent respectively from 1899 to 1909 the 
value of products increased 81 per cent and the amount of 
capital 105 per cent. This affords indirect support to the 
statement that the country's progress in manufacturing has 
been for the most part progress in machine production. A 
more accurate notion of the growth of manufactures is to be 
obtained by studying the facts in reference to particular 
branches of industry. 

The principal change that has taken place in the iron and Manufac- 
steel industry is a substitution on a large scale of steel for turesof 
iron products. Thus in 1880 less than one-third of the 3,800,- g^*'",^" 
000 tons of pig iron produced in the United States was eon- 
verted into steel ; in 1910 nineteen-twentieths of the 27,300,000 
tons produced was so converted. As late as 1878 more iron 
than steel rails were produced in the country ; at present iron 
rails have practically gone out of use, as but a few thousand 
tons continue to be rolled each year in comparison with two 
to three million tons of rails of steel. Another change is in the 
process by which steel is made. Improvements in the open- 
hearth process invented by Siemens in 1867 have caused it 
to gain in favor in comparison with the Bessemer process. 
The following table illustrates this development : 



Statistics of Crude 


Steel Produced 


in the United States 




(long tons) 








Open -hearth 






Bessemer Steel 


Steel 


All Other 


Total 


1890 3,690,000 


513,000 


75,000 


4,278,000 


1900 6,680,000 


3,398,000 


105.000 


10,183,000 


1910 9,410,000 


16,500,000 


178,000 


26,088,000 



The larger production of open-hearth steel is significant be- 
cause it makes possible a utilization of ores which could not 
be economically treated by the Bessemer process. 



46 INDUSTRIAL EXPANSION OF UNITED STATES 



Manufac- 
tures of 
Cotton. 



Concentra- 
tion in 
Manufac- 
turing. 



Comparing the growth of iron and steel manufacturing in 
the United States with its growth in other countries, it ap- 
pears that Germany alone has experienced a similar develop- 
ment. That country now contests with Great Britain for the 
position of second largest iron-producing country in the 
world. The United States produces more iron and steel than 
both of these countries together, while either one of them 
produces four times as much as any other single country. 

The progress of the United States in iron and steel manu- 
facturing has contributed greatly to its progress in other lines 
by cheapening machinery, but in no other has so favorable 
a showing been made. More typical of the general manu- 
facturing development of the country is the growth of the 
cotton industry, a department in which the United States is 
still inferior to Great Britain. From using only about one- 
fifth of the world's annual cotton crop in manufacturing 
processses in the early seventies the United States has ad- 
vanced to the position of using more than one-third in 
1910. The same story is told by a reference to the number 
of spindles in American mills at different periods. The cen- 
sus for 1860 put the total at 5,000,000. By 1880 the number 
had doubled. In 1890 it was returned as 14,000,000, in 1900 
as 19,000,000 and in 1910 as 28,000,000. In interpreting 
these figures it must not be forgotten that there has been a 
high protective tariff on cotton goods which prevents the 
foreign manufacturer from competing on equal terms in the 
American market. 

It would require too much space to describe in detail the 
growth of other branches of manufacturing. In every line in 
which machinery can be largely used the United States has 
made notable progress, with the general result that the coun- 
try now depends less upon Europe than at any previous 
period for the manufactured goods that she requires and that 
her own manufactured products are coming to take a very 
important place among her exports. With the increased use 
of machinery in manufacturing has come a tendency toward 
concentration of management and resulting enlargement of 
the size of the business unit. The latest phase of this develop- 
ment is the so-called " trust." Competing firms have been 



GROWTH OF AMERICAN COMMERCE 47 

combined into great corporations, which in some cases have 
gained a virtual monopoly, at least for a time, of the branches 
of manufacturing with which they are concerned. The prob- 
lems which have arisen in connection with this movement are 
discussed in Chapter XXV. 

§ 25. The growth of the foreign trade of the United States The Growth 

has been less striking than the development of home indus- ° °™" 

mcrcc 
tries, partly because of the protective tariff which has re- 
stricted the importation of protected articles. The following 
table brings out the main facts in reference to the country's 
foreign trade since 1865 : 



Foreig 


n Commerce of 


United States, 


1866-1910 




Average Annual Value of 


Excess of Exports 


Years 


Imports 


Exports 


over Imports* 


1866-1870 


$ 427,000,000 


.$ 392,000,000 


— $ 35,000,000 


1871-1875 


599,000,000 


586,000,000 


— 13,000,000 


1876-1880 


533,000,000 


714,000.000 


-f 181,000,000 


1881-1885 


720,000,000 


834,000,000 


+ 114,000,000 


1886-1890 


761,000,000 


799,000,000 


-j- 38,000,000 


1891-1895 


844,000,000 


1,009,000,000 


+ 165,000,000 


1896-1900 


847,000,000 


1,266,000,000 


+ 419,000,000 


1901-1905 


1,064,000,000 


1,570,000,000 


+ 506,000,000 


1906-1910 


1,478,000,000 


1,911,000,000 


+ 433,000,000 



* -|- ^ Excess of exports. — = Excess of imports. 

Down to 1874 the value of imports usually exceeded the 
value of exports, chiefly because during that period foreign 
capital in the form of machinery, etc., was being imported, 
with which to develop the internal resources of the country. 
The excess of exports which has characterized the trade in 
every year except two since 1874 indicates the repayment in 
large part of the foreign capital invested here during the 
earlier period and an increasing investment of American cap- 
ital abroad. In time, the returns from these foreign invest- 
ments will exceed the new investments that continue to be 
made and imports will again be in excess of exports as they 
have long been, for example, in the United Kingdom. 

During the last thirty years the character of the country 's Changes in 
export trade has changed materially as is shown by the follow- ^^°^ ^' 
ing table; 



48 INDUSTRIAL EXPANSION OF UNITED STATES 

Percentages of Total Exports from United States of Different 

Kinds of Products, 1880-1910 

Food Stuffs Raw Materials Manufactures Total 

1880 55.8 29.4 14.8 100 

1890 42.2 36.6 21.2 100 

1900 39.8 24.8 35.4 100 

1910 21.6 33.6 44.8 100 



The growth of export trade in manufactured products indi- 
cated justifies the belief that the United States is passing the 
period when her manufacturing industries as a whole require 
protection. That they are still protected by high tariff duties, 
however, must not be lost sight of in interpreting the facts 
shown, or the other fact, of which much has been made in 
recent discussions, that the exports of manufactured prod- 
ucts now exceed the imports. This would certainly not be 
the case if the protective duties were removed. 
Relative In comparison with European countries, and notably with 

Importance ^^^ United Kingdom, the foreign trade of the United States 
Commerce ^^ small in proportion to her population and wealth. Thus, 
in 1910, the per capita value of imports for the United States 
Avas $17.89 and of exports, $20.85, whereas the corresponding 
figures for the United Kingdom in the same year were $73.55 
and $46.63. The reason for this is that the United States is 
itself adapted to the production of such a variety of products 
that different sections secure by means of internal trade most 
of the things which they require. No European country could 
afford to dispense with foreign products, since to do so would 
entail suffering upon whole classes of the population who 
would thereby be deprived of the very necessaries of life. It 
would entail hardship on the people of the United States also 
if foreign trade were interrupted, but the articles that would 
be missed would not be absolute necessaries, but for the most 
part comforts such as coffee, sugar, tea, cocoa and tropical 
fruits. The United States is more nearly industrially inde- 
pendent than any other important country in the world 
except China. 
Conclusion. § 26. The principal facts in regard to the industrial ex- 
pansion of the United States have now been passed in review. 
Among these facts the one most deserving of emphasis is the 



CONCLUSION 49 

debt which the country has owed at every stage of its progress 
to its natural resources. These have played an important part 
in developing in the typical American the restless energy, en- 
terprise and mechanical ingenuity by which he is distinguished. 
At the same time they have offered an almost boundless field 
for the exercise of these qualities and have so richly rewarded 
effort that the standard of comfort and general well-being in 
the United States has been higher than in any other country 
in the world at all comparable with it in area. If the United 
States stood foremost among nations in the year 1910 in the 
production of corn, wheat, cotton, coal, iron, petroleum, cop- 
per and lead, it was owing chiefly to its natural endowment 
of broad and fertile acres, favorable climate and rich mineral 
resources. Until the present day successive generations of 
Americans have been able to reap large profits from the ex- 
ploitation of these natural resources. The same process will 
continue for many years longer, but already there are indi- 
cations that the richest treasures of nature in virgin land, 
primeval forests and mineral deposits, have been taken and 
that the people must accustom themselves to a slower rate of 
progress and a less generous response to their labor. 

REFERENCES FOR COLLATERAL READING 

*Coman. Industrial History of the United States; *Bogart, Economic 
History of the United States, 2nd edition; *Deioey, Financial History 
of the United States; Taussig, Tariff History of the United States; 
Wright, The Industrial Evolution of the United States; Tarr, Economic 
Geology of the United States; Statistical Abstracts of the United 
States; Abstract of the Thirteenth Census, 1910. 



CHAPTER IV 



PRELIMINARY SURVEY OF ECONOMICS 



Definition 
of Business. 



Motives to 

Business 

Activity. 



§ 27. In the definition, ' ' economics is the social science of 
business," the last word is used in its broadest sense. It de- 
notes activity entered into, not primarily for its own sake, but 
for the sake of some indirect return. Business is thus, in a 
sense, " work " as distinguished from " play," but should 
not be thought of as necessarily disagreeable. It includes 
activity^ that is, pleasurable mental or physical exercise, as 
well as effort, that is, exercise which involves some element of 
discomfort or pain. The rational man tries to arrange his 
work so that it will involve as little effort as possible. 

The motives to business activity are too familiar to require 
extended analysis. Men are so constituted that their happi- 
ness, their existence even, depends upon their having com- 
mand over certain material commodities and personal services. 
They must have food, shelter and clothing in order to live. 
Such things satisfy their primary, physical needs. Next come 
the more complex wants which distinguish the civilized man 
from the savage. Men now desire tools, machines, conveni- 
ences for travel and social intercourse, and countless other 
things which contribute to the comfort of life. To create or 
obtain these material and immaterial conditions to well-being 
is the chief object of business activity. Primitive men went 
about the task directly. They killed game for food, erected 
their own huts and made their own garments from the skins 
of animals. Their civilized brothers have learned that busi- 
ness activity is more fruitful when it proceeds by roundabout 
and cooperative methods. They spend much of their time in 
fashioning tools, machines and other aids to production, and 
concentrate their attention on special tasks, relying on others 
and upon an elaborate system of markets and other facilities 
for exchange for most of the things which they require. 

50 



CHARACTERISTICS OF BUSINESS MEN 51 

It is this indirectness of modern business activity which 
gives rise to many of the most difficult problems of eco- 
nomics. 

Other motives to business activity (besides the desire to 
obtain control over commodities and services as a means to 
gratifying wants) are interest in work for its own sake, 
desire for the social distinction which attaches to large com- 
mand over commodities and services, love of power and 
desire to serve the community. The strength of these sup- 
plementary motives varies with different men and in different 
occupations. The first is particularly prominent in connec- 
tion with the work of artists, artisans and professional men, 
but it is by no means confined to such pursuits. In fact it 
is not far from the truth to say that business success in nearly 
all occupations is in direct proportion to the interest the 
worker takes in his work for its own sake. Desire for social 
distinction and love of power have little influence on the 
attitude of the average man toward the working life, but in 
the minds of those who rise to the highest positions in the 
business world these become dominant motives. It is only 
by reference to them that the laborious days of many of 
America's millionaires can be understood. Finally, the desire 
to render social service is already a strong motive with many 
persons and promises to become stronger as political and other 
opportunities to serve the community on terms that self-re- 
specting men can accept are multiplied. There can be little 
doubt that the present trend of development in progressive 
countries is toward the exaltation of these supplementary 
motives at the expense of what may be called the mere bread- 
and-butter attitude toward the working life. 

§ 28. A first requisite to the understanding of business is Character- 
a clear description of the business man. As found to-day in isticsofth 
the United States and other countries in the same stage of 
industrial development, he has four traits which show them- 
selves more or less clearly in all of his acts : 

(1) The business man pursues his own interest in his busi- Self- 
ness dealings and assumes that others will do the same. This i^*^^^st. 
does not mean that he is steeped in selfishness, but simply 
that from his point of view '' business is business," not play 



52 



PRELIMINARY SURVEY OF ECONOMICS 



The Larger 
Self. 



Desire for 
Independ- 
ence. 



Business 
Morality. 



Goods and 

Their 

Utility. 



nor philanthropy, and that he prefers to keep his getting 
separate and distinct from his giving. 

(2) In judging of his own interest the business man thinks 
of himself not as an isolated individual, but as a member of 
different social groups, of which the family is by far the most 
important. He works not for himself alone, but for his 
famil}^, his church, his union, or club, and his country. In 
different relations and at different times he identifies his in- 
terest with the interests of these organizations. 

(3) He desires to be financially independent. His ambi- 
tion is to stand on his own feet, to make his own way and, 
when he accepts assistance, to give an adequate return 
for it. 

(4) He is controlled in his business dealings by the code 
of business morality that pertains to his class. As there is 
" honor even among thieves," so there are special standards 
that are accepted and lived up to by different business classes. 
These standards are not as high as would be desirable, but 
they are higher than current criticisms of business morality 
might lead one to think. To be maintained, however, in 
communities where class barriers are constantly giving way, 
such standards have often to be reinforced by legal enact- 
ments. 

These four characteristics of the business, or economic, man 
are readily explained by reference to the evolutionary process 
which has brought industrial society to its present stage of 
development. Self-interest as a dominant motive, for ex- 
ample, is the direct fruit of that struggle for existence which 
is still in progress and which makes self-preservation the first 
law of nature to every organic species. In the case of men, 
sympathy and the sense of brotherhood have tempered self- 
seeking with consideration for others, but it still plays an 
important role in shaping human conduct. 

§ 29. The material commodities and personal services which 
are objects of human desire are conveniently designated as 
goods, while the capacity or quality in goods which makes 
them desirable is called utility. As used in economics these 
terms are stripped of the moral implications that sometimes 
attach to them in ordinary speech. Thus anything that is an 



FREE AND ECONOMIC GOODS 53 

object of desire has utility and is a good, whether it be the 
hymn-book of the missionary or the whisky of the trader. 
This usage is designed to give greater precision to discussions 
involving these concepts and also to avoid the mistake of sub- 
stituting the approval or condemnation of the actions of busi- 
ness men for the explanation of their actions — the primary 
task of economics. 

Not all goods figure in business transactions. Such things Free Goods, 
as sunlight, air and water are usually free goods for which 
no one expects or receives a return. They are supplied by 
nature in such abundance that there is enough of them for 
all and to spare. In general it may be said that whenever the 
spontaneous supply of any good exceeds the desire for it, 
units of that good will he free. 

In contrast with free goods is that vastly larger class of Economic 
commodities whose supplies are limited in comparison with Goods, 
the desire for them and which are therefore objects of econ- 
omy. These are appropriately named economic goods and 
taken together constitute the wealth to secure which men 
engage in business. The characteristic of economic goods is 
that they have value as well as utility. 

The term, value, is used in economics in two distinct, al- Value, 
though closely related, senses, and this has given rise to a great 
deal of confusion. It may designate the importance which 
a person ascribes to a unit of a good as a condition to the 
gratification of his wants. This is value in the subjective 
sense and may be distinguished as value in use. In the 
phrases, " the value of a loaf of bread to a starving man is 
beyond calculation " and " no one knows the value of an 
object until he has to do without it," values in use are meant. 
The other sense of the term is that of value in exchange. 
When a bushel of wheat is said to be twice as valuable as a 
bushel of corn, it is the exchange ratio between the two that 
is referred to. Value in exchange is thus the power of a 
good to command other goods in exchange for itself. In 
future in this book the word value by itself will be used in 
the sense of value in exchange. 

The three concepts, utility, value in use and value in ex- 
change, are analyzed more fully in the chapters on Value. 



54 



PRELIMINARY SURVEY OF ECONOMICS 



Relation 
Between 
Utility and 
Value. 



Value in 
Use and 
Value in 
Exchange. 



At this point it will suffice to suggest very briefly the relations 
which they bear to one another. 

Free goods have no value in use, that is, single units of 
such goods have no importance as conditions to the gratifica- 
tion of wants. Thus a cubic foot of air in the room in which 
the reader sits has no value, although it has utility, because 
it would not be missed if withdrawn. Other air would rush 
in from adjoining rooms and from outdoors and the equilib- 
rium of atmospheric pressure would be almost immediately 
re-established. If the room were made air-tight, however, and 
one cubic foot of air after another were withdrawn, the situa- 
tion would be quite changed. Now, instead of being indiffer- 
ent, each cubic foot of air would be of importance ; and as 
one cubic foot after another was taken away this importance 
would steadily increase. As the air became thinner, discom- 
fort, strangulation and finally death would ensue, unless the 
process of exhaustion could be checked. The reader would 
in this case ascribe high value to air, holding it as precious 
when at the last extremity as life itself. As this illustration 
indicates, value in use is variable and measures the extent of 
man's dependence under the 'given conditions of supply upon 
a unit of the good being valued. 

The relation between value in use and value in exchange is 
somewhat more complex. At the outset it is obvious that a 
good must have value in use to some one as a condition to 
its having value in exchange. Such value in use may be im- 
mediate, as in the case of goods finished and ready for con- 
sumption, or derivative, as in the case of tools and machinery. 
Unless it is present there can be no value in exchange for the 
simple reason that no one will give anything for something 
which no one considers of any importance. In the second 
place a good which has value in use to two or more persons 
so situated that they may have business dealings with one an- 
other and which is transferable will normally have value in ex- 
change. This may be inferred from the definition of value 
in use, since a good which is of importance to the well-being 
of two or more persons can hardly fail to be worth something 
in other goods. Since value in exchange never arises in the 
absence of value in use, and, on the other hand, normally 



PRODUCTION AND CONSUMPTION 55 

results when value in use is present, there must be a close 
causal connection between the two. The explanation of this 
connection is deferred to Chapter VII. 

Closely related to value in exchange is another familiar Price, 
concept, that of price. As ordinarily used in business con- 
versation price designates exchange value measured in terms 
of money, money being the universal medium of exchange. 
In the United States prices are expressed in dollars and cents, 
and the standard dollar is maintained, by means of regula- 
tions described in Chapter XIX., as the invariable exchange 
equivalent of 23.22 grains of pure gold. It follows that 
current American prices indicate the quantities of the com- 
modity gold, for which units of the commodities priced would 
exchange on the given date in the given market. This is what 
is meant by the statement that " the United States has the 
gold standard." 

§ 30. The limitation on the supplies of goods which makes 
them economic, or valuable, may be due to the fact that they 
are unique, that they are controlled by a monopoly or simply 
that business activity is required to bring them into existence. 
Examples of absolute limitation are afforded by old coins or 
stamps, pictures by deceased artists, etc. Such goods often 
acquire with age a value out of all proportion to the esteem 
in which they were originally held.* Monopolized goods are 
equally familiar. Such are patented goods and those pro- 
duced by means of secret processes. Most common of all are 
goods whose supplies are limited simply because business ac- 
tivity is needed to create them. 

The creation of economic goods, or, more accurately, of the Production 

utilities embodied in them, is called production. It is the ^"* ^°^' 
,.„ r>T- •• ^ T-1-- sumption, 

chiei purpose or business activity. Contrasted with it is 

consumption, the utilization of goods as a means to the grati- 
fication of wants. Consumption, as already suggested, fur- 
nishes the principal motive for business activity. The utiliza- 
tion of goods as means to gratification must, for the sake of 
clearness, be sharply contrasted with productive utilization, 
as for example of fuel or raw materials in manufacturing. 

* Thus, a single letter of Martin Luther was recently sold for $25,000. 



56 PRELIMINARY SURVEY OF ECONOMICS 

Such utilization, although sometimes described by the mislead- 
ing phrase " productive consumption," is really production 
itself. It has nothing in com.mon with consumption except 
that it too usually involves the destruction of the utilities in 
the goods utilized. 

Every individual is of necessity a consumer of economic 
goods. If he be not a producer as well, the world is made 
poorer because of his existence. What he eats, drinks and 
wears is so much taken from the limited stock upon which all 
must subsist. Looked at from the point of view of the col- 
lective good, such an individual is either a recipient of charity, 
or a parasite, or both. In judging of a person 's standing as a 
producer, full credit must be given for the creation of those 
immaterial goods upon which the world's happiness so largely 
depends. Services as well as commodities contribute to human 
well-being, and the field of economic study would be barren 
indeed if they were left out of account. Allowance must also 
be made for the part which property, like land, buildings, etc., 
plays in production. In the United States the moral sense of 
the community approves on the whole of the institution of 
private property and hesitates to condemn a person even 
though he lives in idleness, so long as he confines his consump- 
tion to the goods which the income from his property enables 
him to purchase. It would be inaccurate, therefore, in the 
present stage of economic development to characterize such a 
person as either a recipient of charity or a parasite, although 
the presence of such persons in society itself constitutes a 
strong argument against the continuance of the institutions 
which make their mode of life possible. 
The state of It is important for the student to form a clear mental pic- 
Normal ^^j,g q£ economic goods, or wealth, as an aggregate. To this 
librium ^^^ production may be thought of as a vast network of pipes 
all conveying products, i. e., valuable commodities and services, 
to a central reservoir, from which they are distributed by 
means of consumption pipes to the individuals who make up 
society. Obviously if the streams of goods entering through 
the production pipes are just equaled by the streams of goods 
passing out through the consumption pipes, society's wealth is 
neither increasing nor decreasing. This is the situation de- 



SACRIFICES INVOLVED IN PRODUCTION 57 

scribed later as that of normal equilibrium. It is full of 
scientific interest because while it continues economic forces 
just balance one another and opportunity is afforded to study 
the business world as it would be if all influences were per- 
mitted to work out their full effects free from disturbing 
changes. 

§31. Most goods are limited in supply (and consequently Effort and 
valuable) simply because activity is needed to create them. Sacrifice 
To the extent that business activity entails effort, it is obvious -p ^ ^■ 
why its products must normally have value. If they did not, 
business men would be under no inducement to produce them. 
But business is often merely a form of pleasurable activity. 
"Why, it may be asked, are not goods which it is a pleasure 
to create, such as the products of talented artists, multiplied 
until they become free like the superabundant gifts of nature? 
The mere statement of the question suggests the answer. In 
the first place artistic talent is rare in comparison with the 
demand for artistic products. Even if all artists of first-rate 
ability were so constituted that they could derive unalloyed 
pleasure from their work during tv/enty-four hours out of 
every twenty-four, there would still be a scarcity of artistic 
products which would prevent them from being free goods. 
But no artist is able to work twenty-four hours in a day with- 
out incurring a sacrifice, and this is the second reason. Pro- 
duction and consumption are usually mutually exclusive and 
each takes time. It follows that the hours spent, no matter 
how pleasantly, in production, are hours subtracted from the 
consuming period. So long as the hours devoted to business 
activity afford more pleasure than would the same hours de- 
voted to leisurely consumption, such activity involves no sac- 
rifice. But as work is continued through the day it loses in 
interest, while leisurely consumption gains in attraction. In 
consequence after a few hours' toil the balance is usually 
turned and work, even though still pleasurable, ceases to be 
more pleasurable than consumption. In this situation to con- 
tinue to produce is to make a sacrifice. As the economic man 
declines to put forth effort that is not rewarded in valuable 
products, so he declines to incur sacrifice that is not similarly 
recompensed. This fact limits the supplies of all goods except 



58 PRELIMINARY SURVEY OF ECONOMICS 

those which nature furnishes in superabundance, and is one 
of the fundamental causes of value. 

It might be thought that improvements in methods of pro- 
duction would increase the number of free goods, but thus 
far in the world 's history population has increased and wants 
have multiplied even more rapidly than processes have im- 
proved and therefore the number of free goods has been grow- 
ing smaller rather than larger. Even water, air and sunlight 
have now been transferred for people who live in cities from 
the category of free to that of economic goods which command 
a price. 

The Cost of The sum of the efforts and sacrifices that are involved in 
ro uction. production constitute what is known in economics as the cost 
of production. They are the advances which must be recom- 
pensed in the value of the product, if actual loss in well-being 
is to be avoided. Under favorable circumstances such cost 
involves only sacrifices, that is, the doing of things that are 
less pleasurable than other things that might be done, but 
free from any element of pain. The tendency of evolution 
appears clearly to be toward bringing all costs to this level. 
As the same productive tasks are performed generation after 
generation human organisms become adapted to them so that 
children do with ease what their fathers could do only with 
difficulty and effort. If the work of the world were equally 
apportioned and the methods of production were not con- 
stantly changing so that muscles and nerves are required to 
adapt themselves to ever new situations a stage might soon 
be reached in which all production would be painless. This 
is one of the goals toward which economic progress should con- 
sciously be directed. 

Expenses of. To be contrasted with the costs of production, which are 

Production, psychological or subjective, are the expenses of production, 
that is, the advances made for materials, labor and all the 
other things which cooperate in bringing about productive 
results. The latter are objective and may be expressed as sums 
of money comparable with the prices received for products. 

Work and § 82. Until the last one hundred and fifty years it was 

^^' customary for most families to produce for themselves most 

of the things which they required. Under such conditions the 



THE WORLD'S WORKERS 59 

relation between work and pay was very simple. Each family 
got all or a portion of the identical things which it produced 
and was made to feel keenly its dependence upon its own ex- 
ertions and upon favoring natural conditions. The introduc- 
tion of machinery and the era of specialization to which it 
has given rise have changed this situation. At present most 
families produce but little for their own direct consumption. 
Those who dwell in cities and towns, and even those who 
dwell in the country, produce for the most part for the market 
and rely upon the market for the things which they require. 
Nor is this the only complication. The great majority in 
modern communities produce as hired workmen and have no 
direct share in what they produce nor knowledge of the con- 
ditions under which the product is marketed. They receive as 
their compensation wages or salaries agreed upon beforehand 
and shift to their employers responsibility for the success of 
the business enterprises in which they are engaged. Under 
these conditions the problem of work and pay has be- 
come one of the most difficult in the whole field of eco- 
nomics. 

Foremost among the world 's workers are the so-called cap- The World's 
tains of industry or enterprisers who direct industrial proc- Workers. 
esses. Their remuneration comes to them as profits or balances 
left over from the sale of products after all of the expenses 
of production have been paid. Below them are the lieutenants 
of industry, the salaried managers and bosses, and at the 
bottom the rank and file of the industrial army which is paid 
its remuneration in the form of monthly, weekly or daily 
wages. A complete explanation of wages involves a study of 
the causes that determine the prices of the products of in- 
dustry out of which money wages ultimately come, of the 
circumstances which determine labor's share of these prices, 
and finally of the terms on which money wages are exchanged 
for the goods which workmen consume, since these constitute 
the real wages of labor. Each one of these subjects of in- 
quiry represents an obstacle which, as business is now carried 
on, intrudes itself between the products of labor and the pay 
of labor and causes wage-earners to feel themselves dependent 
for their remuneration upon the bargain which they make 



60 



PRELIMINARY SURVEY OF ECONOMICS 



Wages. 



Property 
and Its 
Earnings. 



with employers even more than upon the quantity and quality 
of their work or the favorableness of natural conditions. 

Under the manorial system the most important influence 
fixing the pay of villeins was, as has been shown, the custom 
which determined how large an allotment of land the villein 
should receive and what services he should render in exchange 
for it. In the age of Elizabeth custom was supplemented by 
law and judicial regulation in the determination of this im- 
portant matter. Not only were laws passed fixing the rate 
of pay for particular kinds of work, but the general rule 
was established that the justices of the peace should have 
power to regulate wages. Neither custom nor law now plays 
much part in the fixing of wages. Their determination is left 
to free bargaining in all Western countries, and it is difficult 
for most people even to entertain the idea of a different sys- 
tem. Of no country is this more true than of the United 
States. American courts have over and over again declared 
that the rights to liberty and to property guaranteed in all 
of the state constitutions embrace the right of employer and 
employee freely to contract or bargain, and that laws attempt- 
ing to abrogate freedom of contract and to put in its place 
legal regulation as the determinant of wages are unconstitu- 
tional. As is pointed out in the chapter on Labor Legislation 
(Chapter XXX.) there is reason to think that judges have gone 
too far in their application of this principle, but its funda- 
mental importance to the present industrial system is beyond 
question. 

§ 33. Next to the right freely to contract, the right to prop- 
erty is the one most jealously guarded by modern govern- 
ments. The significant aspect of the right to property in this 
connection is the right to use it as a means of securing income. 
English and American law distinguishes between real and per- 
sonal property. Economics, in rough conformity to this classi- 
fication, distinguishes between land and other gifts of nature, 
and capital goods, that is, products of past industry used in 
the present as aids to further production. Both forms of 
property afford incomes to their possessors, that from land 
being known in economics as rent and that from capital goods 
as interest. 



WHEN BUSINESS BECOMES PREDATORY 61 

The problem of property and its earnings is quite as com- 
plicated as that of work and pay. In it are involved not 
merely economic, but moral relations of the profoundest sig- 
nificance. The economist must not merely explain the reasons 
for the earnings assigned to property and the circumstances 
that determine their amount, but he must also supply the 
basis for a wise decision as to the social utility of the system 
which permits these earnings to go to individual property 
owners. It is customary in treatises on economics to group 
together all of the problems connected with work and pay and 
property and its earnings into one great department of the 
study known as Distribution. This has to do with the causes 
which determine the division, or sharing, of economic goods 
among the individuals in industrial society. It is the conclud- 
ing stage in the process of production, and a necessary pre- 
liminary to consumption. 

§ 34. As stated in Section 30, production is the chief pur- Business 

pose of business activity. When production is carried on for Activity 

the gratification, directly and immediately, of the wants of _ ^^ 

, . . , -, A 1 • ■ Predatory, 

the producer, it is the only purpose. As business is now ^^^ 

organized, however, production, as already pointed out, is productive, 
usually for the market. The rewards of business activity are 
derived from the prices received for the commodities or serv- 
ices offered for sale. In consequence, the immediate purpose 
of the business man is not production, but financial return. 
Ordinarily, the business man secures his financial return by 
making a contribution to production. But unfortunately this 
is not the only way by which a financial return may be 
secured. A few examples of other ways in which business 
men secure incomes will make clearer the real relation be- 
tween business activity and production. 

Wheat farmers secure financial returns by producing all the iiiustra- 
wheat they can on their farms. The purpose of their business tion. 
activity is clearly production. But between the wheat farmer 
and the consumer of wheat there are many middlemen. 
Among these there may be a wheat speculator who conceives 
the ambitious project of acquiring control of such a large part 
of the world's wheat supply that he can fix the price of this 
essential commodity. Many men at different times have under- 



62 PRELIMINARY SURVEY OF ECONOMICS 

taken this task. Most of them have failed, but a few of 
them have succeeded and have reaped large fortunes. Men 
who make it their business to gamble in wheat can hardly 
be described as producers of wealth. It is not easy to draw 
the line between such men and others who are bona fide wheat 
dealers, but it is obvious that the line should be drawn and 
that the business activity of the gambler, however lucrative, 
is not production. 

Again it is the business of the coal miner to produce coal. 
It happens, however, that the limited field from which anthra- 
cite coal is produced in the United States has come into the 
possession largely of the nine railroads which connect the coal 
mines with the market. As producers of coal, these railroads 
should operate their mines to their full capacity and supply 
the community at prices corresponding to the expenses of 
production. There is, however, an easier and even more cer- 
tain way of deriving a financial return from this industry. 
It is for the railroads and the few remaining private mine 
owners to agree not to sell anthracite coal below a certain 
scale of prices and to limit the output of their mines to the 
quantities which the public will buy at these prices. So far 
as the members of a combination such as this continue to 
produce coal they are engaged in production. So far, how- 
ever, as their business activity is devoted to perfecting the 
details of their combination and imposing limits on the amount 
of coal each shall produce with a view to maintaining prices 
at an unreasonably high level, it is not production. It is not 
easy to determine just how far a combination among producers 
may legitimately go in trying to eliminate the wastes of com- 
petition, but it is clear that when it makes prices unreasonably 
high and secures for its members financial returns far in ex- 
cess of those enjoyed in other fields of business enterprise, 
it has gone to illegitimate lengths. Business of this sort is 
not productive but predatory. 
The As a combination among coal mine owners may reap finan- 

Remedy. ^^^^ returns not by increasing production but by limiting it, 
so may combinations in many other fields. This is the essence 
of the monopoly problem, and as is explained in later chapters 
(Chapters XXIII.-XXV.) monopolies have become so common, 



THE METHODS OF ECONOMICS 63 

and so much of the best business ability of the country is de- 
voted to perfecting the details of their organization and opera- 
tion, that the statement that ' ' the purpose of business activity 
is production " must be seriously qualified. The purpose of 
business activity ought to be production and whenever it is 
perverted to predatory ends the machinery of government 
must be set in motion to recall it to its proper function. It 
is this conviction that has led in the United States to the 
creation of special governmental machinery for regulating the 
railroads and other public service corporations and for pre- 
venting unreasonable practices on the part of the trusts. 

§ 35. The methods of economics are the same as those of The 
other sciences, but the complexity of the phenomena treated Methods of 
makes great caution in the use of these methods necessary. Economics: 
The method upon which most reliance was placed by the older 
English economists was the deductive, or a priori. It consists, 
as treatises on logic explain, in reasoning from general propo- 
sitions to their particular applications. In economics many of 
the most important of the general propositions or premises 
used are borrowed from other sciences (e. g., psychology, law), 
and this makes some knowledge of these subjects an indispen- 
sable part of the mental equipment of the economist. When 
a premise is only roughly accurate, as is for example the 
assumption that wages are determined in the United States by 
free and equal bargaining between employers and employees 
in which each pursues his own interest with the same per- 
sistency and the same knowledge of the situation as the other, 
it goes without saying that conclusions will be only roughly 
accurate also, and will need to be tested if not corrected by 
experience. Since rough accuracy is all that can be claimed 
for most of the assumptions used in economics, the student 
must be particularly careful to weigh the conclusions reached 
at each stage of a long deductive argument, before he attempts 
to give them practical application. 

The inductive, or a posteriori, method is just the reverse of Induction, 
the deductive, since it consists in summing up a number of 
particular propositions in a general conclusion. By means of 
induction the detailed observations of like phenomena, which 
result from the field work of science, are grouped together in 



64 PRELIMINARY SURVEY OF ECONOMICS 

general statements. The latter then serve as the premises for 
deduction, which carries the conclusion beyond the range of 
direct observation. To be sure of the accuracy of the result 
the scientist must appeal to observation again as a means of 
verification. The progress of science thus begins and ends 
with observation. 
Statistics. Where the phenomena to be observed are as numerous as 
they are in economics, induction may take the form of statis- 
tics. Individual instances of the same phenomenon are 
counted and the result given in numerical form. By means 
of statistics a quantitative value is given to the conclusions 
of induction which justifies greater confidence in them. The 
statistical method is applicable as yet to only the simpler 
problems of the science, but such progress has recently been 
made in the collection and tabulation of statistics that there 
is every reason to anticipate results of steadily increasing im- 
portance from its use in future years. 
The Laws of § 36. Much confusion exists in regard to the nature of the 
Economics, j^^^ ^^ economics. Some writers declaim against govern- 
mental policies which they do not like on the ground that they 
run counter to economic laws. Others are equally vociferous 
in affirming that economic laws cannot be changed by any act 
of the legislature. Such statements, unless carefully inter- 
preted, tend to give an erroneous impression of the real nature 
of economic laws. 

A scientific law is a statement of the relation that is believed 
to obtain between phenomena. This relation may be one of 
coexistence or of sequence. To illustrate, it is a law of eco- 
nomics that the prices at which identical units of any good are 
sold in markets between which such units may pass freely 
without any deterioration in quality or loss in quantity, will 
not for any length of time differ by more than the expense of 
carriage between such markets. This is a law of coexistence 
which is proved by deductive and confirmed by inductive 
reasoning. Again, it is a law of economics that an increase 
in the supply of the units of any good offered for sale in 
any market tends to lower the price that can be secured for 
it. This is a law of sequence. In both cases, it should be 
noted, there is implied or expressed the absence of disturbing 



OUTLINE OF BOOK 65 

factors. Free communication between the markets must be 
maintained or the first law ceases to hold good. The second 
law describes a tendency. The increased supply may not actu- 
ally cause a fall in price because it may be offset or more 
than offset by an increase in demand. In the statement of 
all economic as of all physical laws, it is taken for granted 
that other things remain the same, so that the influences upon 
which the operation of the law depends will have an oppor- 
tunity to work out their normal effects. 

To be contrasted with law in the scientific sense, are law in 
the moral and law in the juristic sense. A moral law states 
not what is but what ought to be. It is in this sense often 
that the term economic law is used when particular policies 
are said to violate it. It needs no argument to prove that 
such a use of the term has no place in a scientific treatise. 
Law in the juristic sense has already been defined (Section 2) 
and is not likely to cause confusion. 

The statement that economic laws cannot be changed by NewEco- 
legislation is literally true. It is also true, however, that ^^^^^ Con- 
economic conditions may be changed by legislation and that ^. ^ ^^ 

■^ , ^ . Rise to New 

this may render entirely inapplicable economic laws that were i,a,ws. 
previously significant. The development of the legal system 
of each industrial society makes necessary a continuous recast- 
ing of the laws of economics if that science is to- remain in 
vital relation with actual business conditions. Old premises 
must be discarded and new premises in harmony with the new 
situation must be formulated. For this reason the implica- 
tion of the statement " economic laws cannot be changed by 
legislation," that is, that legislation cannot give a new direc- 
tion to economic forces and in that way modify old relations 
between economic phenomena, is quite misleading. 

§ 37. In the following chapters the different divisions of Outline 
economics are treated in the order suggested in the preceding oiBook. 
survey. The subject of consumption is first discussed as an 
introduction to a fuller treatment of value and price. Then 
follow chapters on production and distribution, in which the 
leading principles of the subject are explained. These prepare 
the way for chapters on money and on problems of the day 
falling within the scope of economics. In the closing chapter, 



66 PRELIMINARY SURVEY OF ECONOMICS 

on Economic Progress, suggestions scattered through the book 
are brought together with a view to showing the direction in 
which industrial society is believed to be moving. 
Conclusion. j^^ ^ conclusion to this preliminary survey a word of caution 
may not be out of place. Economics is an intensely human 
study. Dealing as it does with relations upon which the well- 
being of individuals and even of whole social classes depends, 
it makes constant appeal to the sympathies. This fact serves 
to make it interesting, but it has the disadvantage of appealing 
to the emotions, when emotion can only serve to bias the judg- 
ment, as well as when it may help to right wrongs and to 
promote progress. In studying the principles of economics, 
passion, except the passion for truth, is out of place. What 
is needed is the same calm judgment that has done so much 
to advance the natural sciences. The student should, con- 
stantly have in mind the thought that his primary task is to 
explain existing business relations. ' He must understand how 
they came to be, and the forces that perpetuate .them. He 
must detect the laws which govern them and try to see them 
in their proper perspective as features in a great evolutionary 
process. Only when he has fulfilled this purely scientific part 
of his task is he equipped to take up the discussion of practical 
problems and to throw his weight on this side or that in 
accordance with the dictates of his trained judgment. If he 
takes his task seriously he is very apt to discover that, as he 
comes to understand the interaction of economic forces better, 
he will be less confident in his demands for changes and less 
sanguine of his ability to accomplish even those modifications 
in law or practice which he still believes to be desirable. He 
need not fear, however, that the results of his study will be 
purely negative or that the subject will lose its fascination 
as he penetrates more deeply into it. It will remain to the 
end intensely human, and for every radical change that is dis- 
countenanced by better knowledge, a hundred minor changes 
will suggest themselves, many of which he may himself live 
to see fulfilled. In place of the feeling that the world is 
hopelessly awry, which so often oppresses high-minded people 
when they observe the injustices and inequalities to which the 
poor are daily subjected and the false and vulgar standards 



BIBLIOGRAPHICAL NOTE 67 

that are too frequently characteristic of the rich, the convic- 
tion is likely to grow in his mind that an evolutionary process 
is going on which has for one of its results a gradual im- 
provement in the conditions under which the mass of men 
live and work. This conviction should not and will not lessen 
in the least his desire to contribute his share toward a more 
rapid progress, but it will help to reconcile him to conditions 
which are only tolerable because they are temporary. 

REFERENCES FOR COLLATERAL READING 

*ClarJc, Essentials of Economic Theory, Chap. I.; *Seligman, Prin- 
ciples of Economies, Part I.; * Marshall, Principles of Economics (sixth 
edition), Books I. and II.; *Ely, Outlines of Economics, Chap. X., 
Book I.; Chap. I., Part I., Book II.; ^'Gide, Political Economy, Book I.; 
Keynes, The Scope and Method of Economics; Palgrave, Dictionary of 
Political Economy, articles entitled " Economic Science," " Method of 
Political Economy," etc. 

BIBLIOGRAPHICAL NOTE 

Because of the diversity of views which it presents, the literature of 
economics is likely to prove confusing to one who takes up the study 
for the first time. In order to see the relation among difi'erent writers 
and different schools, the beginner will do well, before he ventures far 
into the subject, to read a brief history of economic theory. 

Haney's History of Economic Thought and Price's Political Economy 
in England may be recommended for this purpose. Cannan's History 
of Theories of Production and Distribution may then be read in connec- 
tion with the works which it discusses. It will be found helpful to 
learn something about each author before reading what he has to say 
on any particular topic, and to this end dictionaries of political 
economy should be used. The standard English work is Palgrave's 
Dictionary of Political Economy. Readers of German should consult 
also Conrad's admirable Handivorterbuch der Staatswissenschaften, 
while readers of French will find Say's Dictionnaire d'Economie Politique 
helpful. 

The principal writers who have contributed to the literature of 
economics available in English may conveniently be distinguished into 
four groups: 

I. " The English classical school " is the term applied to Adam Smith 
(The Wealth of Nations), Malthus (Essay on Population), Ricardo 
(Principles of Political Economy and Taxation) , and John Stuart Mill 
(Principles of Political Economy), and their followers. Rae's Life of 
Adam Smith, Bonar's Malthus and His Work, Hollander's David 
Ricardo and J. S. Mill's Autobiog^-aphy may be read with profit in 
connection with the works of these authors. 

II. A reaction against the doctrines and method of the classical 
school began about the middle of the last century, and to it the term 



68 PRELIMINARY SURVEY OF ECONOMICS 

" historical school " is usually applied. The chief representatives of 
this school in Great Britain were ClifTe Leslie {Essays in Political and 
Moral Philosophy) and Toynbee {The Industrial Revolution). The 
school has had its greatest development in Germany, where it is now 
represented by Gustav Schmoller {The Mercantile System), Karl 
Biicher {Industrial Evolution) and other distinguished economists. 

III. A reaction against the classical school in quite a different direc- 
tion is usually spoken of as the " Austrian school " because of the 
large part which the Austrian economists, Carl Menger, Bohm-Bawerk, 
and Wieser, have played in its progress. In Great Britain it has been 
represented by Jevons {Theory of Political Economy; Money and the 
Mechanism of Exchange) and Smart {Introduction to the Theory of 
Value; Distribution of Income; Economic Annals of the Nineteenth 
Century). The important Avorks of Bohm-Bawerk {Capital and In- 
terest; The Positive Theory of Capital) and of Wieser {Natural Value) 
have been translated into English. 

IV. Few contemporary British or American writers would care to 
be classed rigidly with either of the three schools referred to. For 
that reason it seems best to treat them as a separate group. Prom- 
inent among British economists are Marshall {Principles of Economics ; 
Economics of Industry) , Edgeworth (articles applying the mathematical 
method to economic problems in the British Economic Journal), Nichol- 
son {Principles of Political Economy; Money and Monetary Problems) , 
Cannan {Theories of Production and Distribution), Bonar {Philosophy 
and Political Economy; Malthus and His Work), Rae {Life of Adam 
Smith; Contemporary Socialism; Eight Hours for Work), Bastable 
{Public Finance; The Theory of International Trade), and Hobson {The 
Evolution of Modern Capitalism; The Industrial Systern). 

Among American economists should be mentioned the late General 
Walker {Political Economy ; The Wages Question; Moyiey ; International 
Bimetallism), the late Professor Dunbar {Theory and History of Bank- 
ing) and the late Professor Sumner {History of American Currency; 
Lectures on the History of Protectionism in the United States). 
Prominent among contemporary writers are Clark ( The Philosophy of 
Wealth; The Distribution of Wealth; The Essentials of Economic 
Theory), Patten {Consumption; The Theory of Dynamic Economics; 
The New Basis of Civilization), Adams {Relation of the State to In- 
dustrial Action; Public Debts; The Science of Finance), Hadley {Rail- 
road Transportation; Economics), Ely {Problems of To-day; Outlines 
of Economics; Monopolies and Trusts), Seligman {Essays in Taxation; 
The Incidence of Taxation; The Eco7iomic Interpretation of History; 
Principles of Economics) and Taussig {Tariff History of the United 
States; Wages and Capital; Principles of Economics) . 

Although by no means exhaustive, the above list of authors and 
titles will serve to give some idea of the scope of the general literature 
of economics. It may be supplemented by the excellent bibliographies 
contained in the following works: Bowker and lies, The Reader's 
Guide in Economic, Social and Political Science; Cossa, Introduction 
to the Study of Political Economy; Bullock, Introduction to the Study 
of Economics ; Seligman, Principles of Economics. 

Much of the contemporary literature of economics must be sought 



BIBLIOGRAPHICAL NOTE 69 

in the monographic series published by the American Economic Associa- 
tion and by the leading universities. The principal periodicals devoted 
in whole or in part to economics are: The American Economic Review 
(American Economic Association, 1911-1912, 2 vols.); The Quarterly 
Journal of Economics (Harvard University, 1886-1912, 26 vols.) ; 
Political Science Quarterly (Columbia University, 1886-1912, 26 vols.) ; 
Annals of the American Academy of Political and Social Science 
(Philadelphia, 1890-1912, 33 vols.); The Yale Review (Yale University, 
1892-1912, 20 vols.) ; The Journal of Political Economy (Chicago Uni- 
versity, 1892-1912, 20 vols.) ; The British Economic Journal (British 
Economic Association, London, 1891-1912, 22 vols.) ; The Economic 
Review (London, 1S91-1912, 22 vols.). 



CHAPTER V 



CONSUMPTION OF WEALTH 



Character- 
istics of 
Human 
Wants. 



The law of 
Diminish- 
ing Utility. 



§ 38. As one of the main divisions of economics, consump- 
tion treats of the relations between wants and the means to 
their gratification, goods. The characteristics of wants first 
demand attention. 

It is a familiar fact of human experience that wants are 
indefinitely numerous. Every day, in the consciousness of 
every normal person, many wants for commodities and serv- 
ices are felt which must of necessity go ungratified. Upon 
this simple fact is based the law that the consuming power 
of a community is indefinitely great. 

A second familiar characteristic of wants is that they are 
of very different degrees of intensity. This is realized as 
soon as one tries to arrange all of the wants of which he is 
conscious in a scale according to their importance. Such an 
endeavor reveals also the difficulty of measuring wants and 
the complexity of those which direct daily life. Correspond- 
ing to every want that comes within the scope of economics, 
is a utility or combination of utilities capable of gratifying it. 
The intensities of wants determine degrees of utility and thus, 
as is shown later, have great influence in fixing the values of 
the economic goods in which utilities are embodied. 

§ 39. Variable as they are in intensity, all wants are subject 
to a law of gradual diminution and final satiety as consump- 
tion is continued. This may be illustrated by reference to 
food. A healthy American boy, given a breakfast of unlimited 
buckwheat cakes, attacks the first plateful with great avidity. 
His eagerness is reduced by each additional plateful, until his • 
hunger is satisfied and he must reluctantly confess that he has 
had enough. This might be accounted for by the fact that 
the human stomach can only hold a certain amount of food 
at one time, but the same principle applies to all our wants. 

70 



PRESENT AND FUTURE GOODS 71 

As our capacity to enjoy food is limited, so is our capacity to 
enjoy clothes. A normal person feels intensely the need for 
one respectable suit of clothes, pair of shoes, etc. A second 
suit is less indispensable, but gratifies a lively desire. Addi- 
tional suits gratify wants of steadily diminishing intensities, 
and in time the point of satiety is reached even by the most 
fastidious dandy. Less material wants obey the same law. 
Eyes tire of beautiful pictures or beautiful scenes. Ears are 
deadened in time by even the sweetest music. In short, each 
receptive faculty is subject to exhaustion and requires time 
to recuperate. Upon this psychological principle is based an 
economic law of considerable importance, that of diminishing 
utility. We may formulate it as follows : The utilities of addi- 
tional units of any good to any consumer diminish normally 
as his supply of units of that good increases. This law 
assumes, of course, that no change takes place in the character 
of the consumer as his supply is being increased. 

§ 40. Another characteristic of wants of the greatest eco- Present v. 
nomic importance has reference to the time at which goods Future 
are to be consumed. The normal man lives in the present and ^°° ^' 
will make greater sacrifices to insure the gratification of pres- 
ent than of future wants. Though very general, this charac- 
teristic of wants is more marked for some social classes than 
for others. It would not be far from the truth to say that 
young children and savages live entirely in the present; that 
the manual laboring classes, especially in climates where the 
winters are mild, look only a few months or a few years ahead 
in their economic calculations ; that the great class of artisans 
and merchants plan with reference to their own lives and the 
lives of their children ; and that the founders of large family 
fortunes include generations yet unborn in their view. It is 
in such psychological differences as these that economists dis- 
cover a chief reason for the persistence of inequalities of 
fortune, even in new countries where the same opportunities 
for advancement are open to all. 

This fourth characteristic of wants is the basis of a second 
law in regard to utility which, as is explained later (Section 
175), accounts in part for the share of income called interest. 
If goods available for present consumption be called present 



72 CONSUMPTION OF WEALTH 

goods, and those to be available in the future — which may- 
exist in the present as unfinished materials — future goods, the 
law may be formulated as follows: The utility of future goods 
is less to the normal consumer than the utility of present goods 
of like kind and quality by an amount varying directly with 
the degree of futurity. 

Wants Are § 41^ ^ fifth and last important characteristic of wants is 
e ermine ^j^^^ ^^^^^ ^^ them are determined by social standards of taste 

by Social 

Standards, ^^^^^r than by the independent judgments of individual con- 
sumers. This is conspicuously true of wants for clothing, 
shelter and forms of amusement. That men — not to say 
women — dress with reference to the opinions of their neigh- 
bors, changing the style of their clothes, their shoes, their hats 
and even their collars, to conform to the vagaries of fashion, 
is a fact of familiar observation. There is a little more inde- 
pendence in the selection of dwelling houses, but here too the 
taste of the many is subservient to that of the few who form 
independent judgments. As regards amusements it is notori- 
ous that one fad follows another, bicycle riding giving place 
to golf and golf — for those who can afford it — to motoring. 

This tendency of whole groups of people to want the same 
thing at the same time has its good and its bad economic side. 
Its advantage is that it permits large-scale production, which 
means usually production at less cost in human effort than 
production on a small scale. As an offset to this, great waste 
results from constant changes in fashion, not only because 
goods are produced which no one will buy, but because the 
machinery, tools and factories designed for their production 
must be thrown away or adapted to new uses. Moreover, 
deference to social standards encourages a deadening uni- 
formity in habits of consumption that is inimical to progress. 
The most desirable situation would appear to-be one in which 
fashions were fairly stable for the mass of consumers and in 
which a steadily growing minority asserted their independence 
of social standards and, by giving free play to their individual 
tastes and preferences, acted as pioneers in testing the merits 
of new and perhaps better ways of doing things. In most 
present day communities men conform to standards of fashion 
that change but little from year to year, while women are 



THE LAW OF DEMAND 73 

more disposed, at least in their modes of dress, to assert their 
individualities. Improvement thus lies in the direction of en- 
couraging men to be more individual in their tastes, and 
women to be more stable in their standards. 

§ 42. Closely related to the law of diminishing utility is The Law of 
the law of demand. Since successive units of any good gratify Demand, 
less and less intense wants, the desire for successive units 
diminishes. Demand, as the term is used in economics, de- 
notes effective desire, that is, desire coupled with ability to pay 
the current price for the desired object. The general law in 
reference to demand is that the quantity of any good that will 
be purchased varies directly with changes in the intensities 
of the desires for the good of purchasers and inversely with 
changes in the prices that must be paid for it. To illustrate, 
the development of a new taste increases the quantity of the 
good capable of gratifying that taste that will be purchased, 
even though the price of that good remain as before. On the 
other hand, even though tastes remain unchanged, a fall in 
the price of a good will cause more of it to be purchased. 
In the first instance we may with correctness say that the 
demand has increased. Economists often say the same in the 
second instance, but there has really been no change in the 
demand, that is, the amount that wall be taken at a certain 
price, but rather a change in the price that causes the demand 
to operate at a lower price level. The importance of this dis- 
tinction will appear when we discuss the influence of demand 
and supply scales on prices, in a later chapter (Section 58). 

When the amount of a good that will be purchased increases Elasticity 
or decreases readily in response to price changes, the demand of Demand. 
is said to be elastic. This is the case with the demand for 
goods which are on the border line between necessaries and 
comforts. A slight fall in the price of such goods brings them 
within the reach of many consumers who before could not 
afford them. At the other extreme are the very cheap neces- 
saries used by all classes, such as matches, salt, etc., in the 
United States. A fall in the price of such goods will not 
increase the quantity of them that will be purchased materially 
because every one is already consuming them nearly down to 
the point of satiety. Where the amount produced is variable, 



74 CONSUMPTION OF WEALTH 

the costs of transportation prohibitive of shipment to distant 
markets and the product itself perishable, it may, and often 
does, happen that the supply of goods for which the demand 
is inelastic exceeds the demand even at the lowest prices. At 
such times such goods become a drug in the market and any 
one may have them who will go to the trouble of carrying them 
away. This situation has sometimes presented itself in country 
districts in the United States with reference to such staple 
crops as potatoes and apples. The elasticity of the demand for 
a good thus has an important bearing upon the risks connected 
with its production. Elasticity of demand means stability of 
prices, inelasticity variability. To escape ruinously low prices 
in the case of commodities like salt, matches, etc., for which 
the demand is inelastic, has been a principal motive leading to 
the organization of some of the trusts discussed in Chapter 
XXV. 
The law of § 43_ The normal purpose of consumption is to afford 
anety. pleasure. Since each kind of good is subject to the law of 
diminishing utility, the pleasures of consumption may be in- 
creased by attention to the law of variety. If a man has only 
corn bread for breakfast, to satisfy his hunger he must push 
his consumption of it beyond the point where it affords him 
appreciable gratification. If to his corn bread are added 
bacon, eggs and coffee, he will be able to supply his body 
with adequate nourishment, without being obliged to eat corn 
bread after he has ceased to relish it. Eating has been taken 
to illustrate the law of variety because it is a universal ex- 
perience, but the law applies equally w^ell to other forms of 
consumption. It is really a corollary of the law of diminish- 
ing utility, since that law itself suggests the necessity of pass- 
ing from one form of consumption to another to avoid the 
uncomfortable feeling of satiety. The ideal which the eco- 
nomic man should, and does unconsciously, have in mind is 
that of carrying each kind of consumption only to the point 
where it becomes less pleasurable than another form of con- 
sumption that may be enjoyed at the same expense. By 
changing to the new form of consumption whenever it affords 
the more pleasure, he is able to get the maximum gratification 
permitted by his income. 



THE LAW OF DEMAND 75 

The great obstacle to varied consumption is the expense of 
a varied assortment of goods, and this is felt most keenly 
where men live in comparative isolation. Homesteaders in 
the western part of the United States, and others in similar 
situations, have to content themselves with rough and simple 
fare, clothing, etc., because it does not pay them to make, 
in the small quantities adapted to their wants, those little 
things which contribute so much to the refinement of life. 
Every advance which tends to bring people into closer in- 
dustrial relations is favorable to a more varied consumption 
and consequently to an increase in well-being. Recent im- 
provements in transportation facilities and means of com- 
munication encourage the hope that the varied markets of 
the city will one day be brought within the reach of every 
country family, while city families will be given opportunities 
to share the free goods of the country. Such an arrangement 
will add enormously to the general well-being. 

§ 44. Next to the law of variety as a guide to judicious The law of 
consumption stands the law of harmony. Harmony of color Harmony, 
and form in dress is indispensable to a pleasing effect. In 
sculpture, painting, architecture and music, harmony is the 
all-important requisite. Even in eating harmonious combina- 
tions are important, as is attested by the pangs of indigestion 
which follow the consumption of such combinations as lemon- 
ade and ice cream or milk and lobster. In a comparatively 
new country like the United States the average man is more 
likely to ignore the law of harmony than the law of variety. 
The American tendency has been to exaggerate the importance 
of quantity and size to the neglect of the subtle harmonies 
which alone give permanent satisfaction. As a result there 
has been relatively little demand in the United States for 
the taste and talent of artists and skilled artisans and great 
demand for the uniform and too frequently ugly products 
of machinery. The development of large cities and the addi- 
tion of new racial types to the population through immigra- 
tion seem to be rapidly changing this situation to the ad- 
vantage of aU classes. 

§ 45. A third aspect of consumption involves its relation 
to production. It is important, by attention to the laws of 



76 CONSUMPTION OF WEALTH 

The Law of variety and harmony, to obtain the largest possible return 
Least Social from the stocks of goods available for consumption. It is 
°^ ■ equally important, while securing a given return of pleasure 

from consumption, to select those goods which can be pro- 
duced with the least expenditure of effort. This is the law 
of least social cost. Its first application has reference to the 
natural conditions of a country. 
Adaptation Economic progress depends in part on the adaptation of 
ofWantsto men's wants to the productive capacities of the particular 

Environ- regions which they inhabit. When colonists settle in a new 
ment. 

country they bring with them a taste for the commodities 

they were used to at home. The soil and climate of their 
new environment are rarely suited to the production of these 
identical things, and hence their well-being depends for some 
time on the readiness with which they learn to like things 
for which the new soil and climate are suited. But men do 
not give up settled habits easily. They waste much time and 
effort in trying to make the land produce what they like, in 
place of learning to like what the land can best produce.*'^ 
Thus in America it took the early settlers a long time to sub- 
stitute a diet of Indian corn for the diet of wheat and rye 
to which they had been accustomed in Europe, and many of 
their early disappointments were due to their unsuccessful 
efforts to produce the grains of the Old World. 
Adaptation A second application of the principle of least social cost 
to Tastes of refers to differences in the capacities and tastes of producers. 
Producers, j^.^ importance may be shown by means of an example. Klotz 
is a poor German who has come to the United States with a 
talent for playing the violin and some knowledge of shoemak- 
ing as his stock in trade. He settles in a town where there 
is little appreciation for music, and must therefore become a 
shoemaker. The work is hard and uninteresting. Every day 
he thinks how much pleasanter it would be to play his violin, 
but he must stick to his last or starve. As time goes on the 
town grows and people come to be Klotz 's neighbors who 
appreciate his violin playing even more than his shoemaking. 
Through their efforts a small orchestra is organized with Klotz 
as leader, and it is not long before fondness for the music 
of this orchestra has become so general that Klotz finds that 



LAW OF LEAST SOCIAL COST 77 

he can discard his leather apron entirely and give all of his 
time to the work that is his pleasure as well as his means of 
livelihood. By a change of taste in the community a discon- 
tented shoemaker is transformed into a happy musician. If 
the change has been genuine the community gets a full return 
for what it gives Klotz for his music. It affords as much if 
not more pleasure than did the shoes which Klotz used to 
make, but added to this pleasure of consumers is the new- 
found happiness of Klotz, the producer. 

As this illustration suggests, the things that people want Progress 
and are willing to pay for are the things that must be pro- I^^eto 
duced. As consumers the members of society determine how ^"^"^^^" 
they shall, as producers, spend their time and effort. As 
regards the necessaries of life consumers have perhaps no 
very great range of choice. They must learn to like those 
things that can be produced most easily in the given environ- 
ment. If Klotz, the musician, gives up making shoes, some 
one else, who finds the task less irksome, must make them. 
But only a part of the community 's income is spent for neces- 
saries. If it prefers as comforts and luxuries articles which 
can be most advantageously produced in factories where auto- 
matic machinery impresses its standards of unvarying uni- 
formity not only upon the products turned out, but also upon 
the operatives engaged in making these products, then the 
ranks of factory labor must be crowded and other occupations 
must be neglected. If, on the other hand, it prefers music 
and objects of beauty, each one, however simple, reflecting 
the individuality of the craftsman who has fashioned it with 
loving thought, then musicians, artists and artisans will find 
remunerative employment and quite a different tone will be 
given to the common industrial life. A community's taste 
thus gives direction to its work and decides for better or for 
worse the kinds of lives that its members shall live. 

The law of least social cost has still another application. Adaptatior 
As is shown in a later chapter (Section 74) the principle that tol-awsof 
large-scale production is more economical than small-scale 
production is subject to important exceptions. In some cases, 
as, for example, in the production of agricultural products 
from a limited area, after cultivation has been carried to a 



78 



CONSUMPTION OF WEALTH 



Economical 
Consump- 
tion. 



Nutritive 
Value of 
Foods. 



certain point, to secure more products requires more rather 
than less proportionate labor. From the viewpoint of social 
cost, it is obvious that increased consumption of articles of 
this sort is less advantageous than increased consumption of 
commodities whose cost decreases as the quantity grows. 

The aspect that it is important to note, in connection with 
all of these applications of the law of least social cost, is that 
the reduction of cost which may be secured by a simple change 
of wants involves no corresponding reduction in the pleasures 
of consumption. Consumers continue to be as well off as 
before, while producers are better off. Thus changes in wants 
may add to economic well-being just as effectively as changes 
in methods of production and are quite as worthy of the 
attention of economists. 

§ 46. The most obvious relation between consumption and 
production grows out of the fact that consumers are also 
producers, and what they eat, drink and wear, the houses 
they live in and the amusements they enjoy, have a deter- 
mining influence on their efficiency. J The ways in which dif- 
ferent forms of consumption affect productive efficiency are 
more properly treated in the chapters on production. At this 
point attention will be called merely to the economy of differ- 
ent lines of expenditure, especially expenditures for food. 

Through ingeniously devised experiments physiologists have 
attempted to ascertain the amount of nutrition which a normal 
man requires when engaged in different kinds of work. It 
is customary to express this as so many calories of heat en- 
ergy, including so many grams of the indispensable protein, or 
tissue-building compounds. iThe daily allowance made for the 
average man at moderate muscular work by the late Professor 
Atwater, an American authority in this field of investigation, 
was 3500 calories, including at least 125 grams of protein 
compounds. Men at hard labor and athletes in training re- 
quire more, while brain workers appear to require somewhat 
less. 

Having established a standard, the next step is to analyze 
different kinds of food to ascertain their nutritive value. I Eco- 
nomical consumption is secured when the cheapest combina- 
tion of foods containing the required ingredients and both 



ECONOMICAL CONSUMPTION 79 

palatable and digestible for the given consumer, is selected. 
No general rules can be laid down because of differences in 
the tastes and incomes of different consumers, but it is inter- 
esting to note the relation in which the food values of different 
foods stand to their cost. Professor Atwater drew up a table 
giving the quantity of each of several different kinds of food 
which might have been purchased for ten cents on a given 
day in New York City, and the amount of nutrition which 
each contained. From this it appears that,|from the point of 
view of protein contents, the most economical foods were 
preparations of wheat, corn, beans, oatmeal, beef for stewing 
and salt cod, while, from the point of view of potential heat 
energy, the most economical were wheat flour, cornmeal, oat- 
meal, potatoes, beans, salt pork and sugar. The table seems, on 
the whole, to bear out the common impression that a vegetable 
diet is much more economical than a diet consisting largely of 
meat, and that the cereals, wheat, corn, beans and oats, are 
the most economical of the vegetables. While the results of 
Professor Atwater 's investigations are highly suggestive, his 
conclusions are not universally accepted. More recent experi- 
ments have shown that a smaller amount of food, completely 
masticated, will maintain a man in fullest vigor. The diffi- 
culty of standardizing methods of cooking and of eating — both 
very important — make absolutely precise conclusions in this 
field unattainable. 

Science has, until recently, done very little to aid the ordi- 
nary man to direct his consumption wisely and economically, 
although every investigation into the consuming habits of the 
poorer classes reveals the fact that, small as are their in- 
comes, a considerable part is wasted because the most econom- 
ical foods, clothing, etc., are not selected. The importance of 
this phase of domestic economics is now fully appreciated and 
there is every indication that rapid progress is being made, 
especially in the larger cities, toward more economical con- 
sumption. 

§ 47. Closely related to the question of economy in con- 
sumption is the question of luxury. As wealth is now dis- 
tributed, the majority of families in every community must 
be economical in order to secure with their limited incomes 



80 CONSUMPTION OF WEALTH 

the necessaries and ordinary comforts of life. Conb asted 
with them are the smaller number of families whose incomes 
are large enough to permit the enjoyment of luxuries. The 
question whether under such circumstances expenditure for 
luxuries is defensible is a question of morals rather than of 
economies, but the economist may well be called upon to decide 
which of the possible uses of surplus income available for 
luxuries is calculated to contribute most largely to the general 
well-being. . 

Definition To give precision to the discussion, luxuries may he defined 
uxuries. ^^ ^^ economic goods which are not necessaries. Necessaries 
include not merely the food, clothing and shelter indispensable 
to life, but the entire complex of goods which each industrial 
class deems requisite to its industrial efficiency. The decision 
as to what these goods are is not to be made by reference to 
any absolute standard, but through study of each class affected. 
For example, manual laborers in the United States would 
certainly include tobacco among the necessaries of life and 
the economist should include it also in discussing their prob- 
lems, for the simple reason that the average manual laborer 
would continue to buy tobacco even though his earnings were 
too small to allow him to buy in addition goods indispensable 
to his industrial efficiency. Tobacco is to him a " conventional 
necessary. ' ' A formal definition of economic necessaries would 
thus be : the things absolutely essential to the industrial effi- 
Of ciency of the average family in the class considered, together 

Necessaries. ^^-^/^ fj^g things that are preferred above the absolute neces- 
saries by the member of the family who directs its consump- 
tion. 
Necessaries It is obvious from the above definition that failure on the 
for All p^j,^ q£ ^jjy family to secure the necessaries of life is in- 

T . jurious, not only to it, but to the whole community. Under- 
f or Any, consumption means under-nutrition and loss in industrial 
efficiency. If permitted to continue it must inevitably under- 
mine the standards which make a family self-supporting and 
self-sufficient and reduce its members to dependency. The 
general interest will be furthered, therefore, by acceptance 
of the maxim: the consumption of luxuries should be in- 
dulged in only after all are provided with necessaries. This 



FALLACIES RESPECTING LUXURIES 81 

is a moral principle that commends itself to all civilized com- 
munities and finds indirect expression in positive law. The 
obstacle to its practical application is the difficulty of supple- 
menting the incomes of independent families, when those in- 
comes are insufficient, without undermining their independ- 
ence and permanently lowering their earning power. Among 
the measures that have been taken to surmount this obstacle 
the principal are plans of industrial insurance, by means of 
which the families of workingmen are assured necessaries in 
times of illness, etc., and the erection of public employment 
establishments in which those in search of work may earn 
necessaries during periods of enforced unemployment. 

§ 48. In the United States, in times of ordinary prosperity, 
all but the very lowest in the industrial scale have not only 
sufficient income to provide for necessaries, but some surplus 
income. Assuming that necessaries are assured to every one, 
the question arises as to the use to which surplus income may 
most economically be put. According to strict utilitarian 
doctrine — which is another name for economic morality — the 
happiness of any one person is just as important quantity for 
quantity and quality for quality as the happiness of any 
other, and hence surplus incomes should be used so as to add 
equally to the happiness of all. This suggests that no one 
is justified in spending income for a luxury for himself or 
his family which will afford less happiness than would the 
same income spent for a luxury for some one else or for some 
other family. The difficulty is that independent, self-respect- 
ing people do not want luxuries bought with other people's 
money. If the pleasures connected with economic goods are 
to be equalized it must be in some roundabout way. Without 
trying to exhaust the subject a few words may be said about 
each of the ways in which surplus incomes are usually em- 
ployed. 

Notwithstanding the denunciations of moralists it is still Fallacies 
true that surplus incomes are largely expended on luxuries I^espectini 
for the gratification of the spender himself, his family, or his 
immediate friends. In justification it is often urged by super- 
ficial observers that such expenditures " make work " for 
others and hence benefit them indirectly if not directly. This 



82 CONSUMPTION OF WEALTH 

argument can be presented with a good deal of plausibility 
so long as only the one use of the income under consideration 
is thought of. A wealthy man gives an elaborate ball. In 
connection with it he employs decorators, caterers, waiters, etc. 
Those whom he invites employ dressmakers, hairdressers, etc., 
in th«ir preparations for the event. The expenditure on the 
ball thus causes an active demand for labor of various kinds, 
which, but for the ball, would not have been required. Those 
who secure employment certainly regard such an entertain- 
ment in the light of a blessing. But consider other uses to 
which the money spent upon the ball might have been de- 
voted. Suppose that it had been given to a wisely adminis- 
tered charitable society for use in improving the condition of 
the poor. In such an event it would have been spent also 
largely for food, clothing and personal service, " making 
work " for numerous individuals who might otherwise have 
sought in vain for remunerative employment. So far as its 
effect on the labor market as a whole is concerned it would 
certainly convey as much benefit in the second case as in the 
first. Similar results would follow its expenditure in any 
other rational way. Even if it were not spent at all, but 
allowed to accumulate as a deposit in a bank, there is reason 
to think that it would " make work " for quite as many 
people as when used for the ball. Banks do not keep their 
funds in their vaults, but lend them out at interest to business 
men who employ them in connection with their businesses. 
This usually means buying materials, hiring workmen, etc., 
and has as favorable an effect on the labor market as luxurious 
expenditure. The ' ' make-work ' ' argument thus applies with 
equal cogency to whatever use is made of surplus income. 
The real contrast presented by the use of the income for a ball 
and its use to improve the condition of the poor, is between 
the slight and transient addition to the pleasure of guests 
already satiated with similar means of diversion, which the 
ball affords, and the large and permanent addition to the 
security and happiness of the victims of misfortune, which 
results from wise charity. It follows that selfish luxury is 
as devoid of economic, as it is of moral, justification. 

But, it should be added, there are luxuries and luxuries. 



SAVING VERSUS SPENDING 83 

Those who have large incomes to administer may contribute Defensibl 
much to social progress by setting standards of rational en- Luxury, 
joyment for others to imitate. The rich man who wishes to 
live in a grand way does the community little good if he buries 
himself like a hermit in an ugly palace. If, on the contrary, 
he builds a beautiful house to which a large and democratic 
circle of friends is welcome, he may be quite as useful as 
though he gave all his income to charities, especially charities 
of the soup kitchen type which demoralize those they are try- 
ing to benefit. 

A third use which many economists urge as the best to Saving v. 
which surplus income may be put, is saving and investment. Spending 
In contrast to purely selfish luxury, saving deserves all of 
the praise it has received. The wise investment of savings 
adds to society's material equipment of tools, machinery, 
buildings, etc., for the production of economic goods. In this 
way it lightens the toil necessary to the realization of a certain 
productive result. Even more important is the fact that, 
through saving, a family may make itself economically in- 
dependent, not in order that it may turn its attention from 
useful industry, but that it may devote itself to the work that 
most needs to be done even though the world has not yet 
learned to appreciate it and remunerate it in proportion to 
its importance. 

It may be doubted whether, under present conditions, sav- 
ing beyond what is necessary to assure economic .independence 
benefits the world as much as would wise spending for some 
social object. Great wealth is almost if not quite as demoral- 
izing as great poverty, and the man who really desires to con- 
tribute to social improvement will put a check upon his 
accumulations and give his time and thought to spending 
such income as he does not require for his own family in 
ways that will benefit others. If he continues to save he 
must finally, in drafting his will, face the problem of the 
best use of wealth. Passing on to his heirs more than is neces- 
sary to insure them economic independence is merely evading 
an issue which each should face squarely for himself. 

§ 49. It is much easier to ascertain how men earn their 
incomes and how much their incomes are, than how they 



tiou. 



84 CONSUMPTION OF WEALTH 

Statistics of spend them. In fact few families have themselves very exact 
Consump- knowledge in regard to their expenditures. They know how 
much they pay for house rent, perhaps how much they spend 
for coal and gas, but few keep accurate accounts of their 
expenditures for food, clothing and the incidentals that are 
an important element in all but the humblest budgets. Nev- 
ertheless several useful investigations into statistics of con- 
sumption have been made and certain general relations have 
been established. About the middle of the last century in- 
quiries were made in Belgium and Saxony into the expendi- 
tures of different families, and upon them two economists, 
Ducpetiaux and Engel, based the following table showing the 
proportional expenditures of different classes for different pur- 
poses in the two countries: 

Table of Expenditures of a 
Self-supporting Middle-class Well-to-do 





Laborer' 


s Family 


Family 


Family 






in, 




in 


in 




Belgium 




Saxony 


Saxony 


Saxony 


Food .... 


•61^^ 




62^1 


55^1 


f/1 


Clothing . . . 
Rent .... 


:lo pi^ 


12 P5^ 12 PO^ 


18 ■ 

12 r 


Fuel and light . 


• 5 J 




5 J 


5 J 


5 J 


Tools, etc. . . 


. 4 










Education . . 


. 2 




2 


3.5 


5.5 


Taxation . . . 


. 1 




1 


2 


3 


Care of health . 


. 1 




1 


2 


3 


Personal service 


. 1 




1 


2.5 


3.5 



This table does little more than to confirm general observa- 
tion, but when it is considered how often general observation 
leads to false conclusions even such confirmation is of value. 
Wage-earners spend nearly all of their incomes in providing 
for the gratification of their merely physical wants. They have 
little left for the higher needs of their natures, and if these are 
to be cared for it must be through community action realizing 
itself in free public schools, free playgrounds and parks, free 
concerts, free lectures, etc. People in more comfortable cir- 
cumstances spend relatively less for fciod and relatively more 
for education and personal service. Expenditures for cloth- 
ing and rent show no diminution, probably because clothes and 



STATISTICS OF CONSUMPTION 85 

houses serve as marks of social position and the desire for 
social esteem is so strong that a large part of surplus income 
is devoted to keeping up appearances. 

A more recent investigation into statistics of consumption Consump 
was made by the United States Department of Labor to ascer- ^^°^ i^ t^ 
tain the importance of different kinds of commodities in the ^^^*^* 
everyday life of representative families. The results of this 
inquiry are summarized in the following table : 

Expenditures of Representative American Families* 
Percentage of Expenditure for 











Fuel and 


All Other 


Family income 


Food 


Rent 


Clothing 


Lighting 


Purposes 


Under $200 


49.6 


15.5 


12.8 


8.1 


14.0 


$ 200-300 


44.3 


14.7 


14.3 


7.6 


19.1 


300-400 


45.6 


15.0 


14.1 


7.0 


18.3 


400-500 


45.1 


15.3 


14.4 


6.6 


18.6 


500-600 


43.8 


15.2 


15.3 


6.6 


19.1 


600-700 


41.2 


15.5 


15.9 


5.9 


21.5 


700-800 


38.9 


15.6 


16.3 


5.3 


23.9 


800-900 


38.1 


16.1 


15.1 


5.3 


25.4 


900-1000 


34.3 


14.9 


16.8 


4.7 


29.3 


1000-1100 


34.7 


15.1 


17.5 


4.5 


28.2 


1100-1200 


30.7 


12.2 


16.5 


3.9 


36.7 


1200 and over 


28.6 


12.6 


15.7 


3.0 


40.1 


All sizes 


41.1 


15.1 


15.3 


5.9 


22.6 



This table is based on a study of as many as 2562 family 
budgets and is even more suggestive than the former because 
of its more careful classification of expenditures according to 
the family income. It indicates the same general relations. 
Expenditures for food diminish relatively as the family in- 
come grows, and the difference is made up by a relative in- 
crease in the expenditures for the gratification of other than 
merely physical wants. Expenditures for rent bear a fairly 
constant relation to the total income, while expenditures for 
clothing show a tendency to increase slightly. 

In addition to these general studies of expenditures in dif- other 
ferent countries, special studies have been made for particular Investig 
cities which bring out striking differences in the habits and ^^°^^' 
standards of different racial groups. Thus Miss Byington, in 
comparing the budgets of the families of steel-workers in 

* Seventh Annual Report of the Bureau of Labor, 1891, p. 864. 



86 CONSUMPTION OF WEALTH 

Homestead, found that colored families with an average weekly 
expenditure of $12.39 spent 19.6 per cent of this amount for 
rent and 39.1 per cent for food, while Slavic families with 
about the same expenditure ($13.09) spent only 15.3 per 
cent for rent and 45.7 per cent for food. Notwithstanding 
these differences in details, the average expenditure for the 
most important item in every wage-earning family's budget, 
food, is shown to be strikingly uniform for American families 
in the same income groups. Thus the Bureau of Labor in- 
vestigation of 1903, covering 5920 families with incomes from 
$600 to $1000, found that the proportion of the income 
spent for food ranged from 39.9 to 43 per cent. Mr. Chapin 
established even closer limits for families in the same income 
group which he studied in New York City, their expenditures 
for food ranging between 44.3 and 45.6 per cent. The average 
found by Miss Byington for her Homestead families in this 
same group was 42 per cent. 

There is perhaps no branch of economics in which intensive 
M'ork yields a larger harvest of suggestive returns than the 
study of statistics of consumption. Any one may enter this 
field by making a study of the expenditures of the family 
group to which he himself belongs and by persuading friends 
to keep budgets of their expenditures in accordance with some 
simple but uniform plan. Residents in Social Settlements 
may do useful work by supplying their neighbors with handy 
account-books and directing them in keeping records of their 
expenditures. Such records are valuable for comparison with 
other calculations, and also the habit of keeping them will be 
found a help in determining how income may be best em- 
ployed. 
Two Aspects § 50. The subject of consumption may be looked at eco- 
nomically in two different w^ays. The more familiar way is to 
regard it as the goal of economic activity and to show how the 
desire for goods causes them to have value and price and in- 
duces people to engage in industrial pursuits. Though per- 
fectly valid so far as it goes, this aspect of consumption must 
not be exaggerated. The other way of looking at it is as a 
means of restoring energy. The consumption of goods neces- 
sary to efficiency is not merely an end ; it is a means to further 



of Con- 
sumption 



CONCLUSION 87 

production. Human beings are not mere goods-consuming 
automatons. They enjoy activity for its own sake, and the 
more highly developed they are, the more they are likely to 
look upon goods as means to the forms of activity they prefer, 
rather than as ends in themselves. It follows that desire for 
goods is only one, if the most important, of the motives which 
control the economic man. Desire for activity is another mo- 
tive which in individual instances quite outweighs the desire 
for goods. 

At the present stage of human and social development the Conclusio 
former of the above ways of regarding consumption is believed 
to be the more accurate and helpful to an understanding of 
economic phenomena. The latter is, however, applicable al- 
ready to many individuals and classes and must be kept in 
view in connection with all problems looking to the future. 
Economic phenomena are related not as cause and effect 
simply, but in a continuous circle of causation. Men produce, 
that is, expend energy, in order that they may consume ; but 
they consume, that is, store up energy, in order that they may 
again plunge into the activities of production. The ideal 
round is one in which the pleasures of production are as defi- 
nite and real as the pleasures of consumption. Unfortunately 
the conditions of production are still so arduous for the mass 
of men that work is usually entered upon unwillingly and only 
under the stimulus of the prospect of pay. In the thought 
of the average man consumption, or the desire to consume, 
thus stands as the motive for production. In the following 
chapters the point of view of the average man is accepted, 
and economic phenomena are explained by reference to it. 
The other point of view, which finds work a joy and goods 
merely aids to further work, receives attention in the closing 
chapter on Economic Progress. 

REFERENCES FOR COLLATERAL READING 

*Patten, The Consumption of Wealth and Dynamic Economies; 
*Fetter, Principles of Economics. Chaps. IV. and XL.; * Bullock, Selected 
Readings in Economics, Chap. VIII.; *Marshall, Principles of Economics, 
Book III.; Ely, Outlines of Economics,. Book II., Part IV.; Mayo-Smith, 
Statistics and Economics, Book I., Chap. II.; *Atioater, Farmer's 
Bulletin, No. 142, published by the U. S. Department of Agriculture; 



88 CONSUMPTION OF WEALTH 

Family Budgets collected by the Economic Club of London, 1891-1894; 
Rowntree, Poverty, a Study of Town Life, Chaps. VI., VII., and VIII.; 
More, Wage-earners' Budgets; Chapin, The Standard of Living Among 
Workingmen's Families in New York City; Streightoff, The Standard 
of Living; Byington, Homestead: The Households of a Mill Tovsti; 
Eighteenth Annual Report of the U. S. Bureau of Labor (1903) on 
Cost of Living and the Retail Prices of Food. 



CHAPTER VI 
VALUES IN USE 

§ 51. As already explained, the term value is used in eeo- Two Sens^ 
nomics in two different senses, one subjective, or pertaining of Value, 
to the relation between men and goods, and the other objective, 
or pertaining to the relation between goods and goods. In 
this chapter we shall analyze the principles which govern 
values in use, or values in the first sense. 

The values in use of different goods depend on the inten- Values in 
sities of the wants which they are to gratify. If each con- UseRela- 
sumer had but a single unit of each kind of good and that 
good were capable of. gratifying only one want the valuation 
process would be comparatively simple. By arranging his 
wants in a scale in accordance with their intensities, he could 
determine the comparative values of the corresponding goods. 
He would not be able to gage exactly the importance of the 
different goods, but he would be able to judge as to their 
relative importance. Thus if good a gratified a more intense 
want than good b, he would regard it as more valuable than &. 
If the want it gratified were more intense than the wants 
gratified by both goods & and c, he would regard a as worth 
more than & and c together. 

In real life the problem for the consumer, even the isolated Value in 

consumer like Robinson Crusoe, is never so simple as this. ^^ ^^^^ 

. . -, on Margi: 

Most wants require several units of the appropriate good or utility. 

combination of goods to gratify them. On the other hand, 
many goods are capable of gratifying a number of different 
wants. On what principle are units of commodity valued 
when a number of units are used by the same consumer ? As 
explained in the last chapter (Section 39) when a number of 
units of a good are available the principle of diminishing 
utility comes into play. The wants to be gratified by suc- 
cessive units of the good may be arranged in a scale according 

89 



90 VALUES IN USE 

to their intensities. The first units of the good will be used 
to gratify the higher wants on the scale. Successive units will 
gratify less intense wants. If the supply of units of the good 
is limited, the want to be gratified by the last available unit 
will have an appreciable intensity. This intensity determines 
the utility of the least important unit in the supply, which 
will be referred to in future as the marginal utility. A little 
analysis of his own valuations will convince the reader that 
when he has to value a unit of a good of which a stock is 
available he values it according to its marginal utility, that is, 
according to the least utility to him of a single unit of the 
good under the given conditions of supply. As a rational 
person he must value it in this way. All of the units beingj 
by assumption, alike, the same valuation must apply indiffer- 
ently to each of them. If one is taken away, it is the least 
intense want dependent on the available supply of the good 
that will go ungratified. If then this last unit is returned it 
is this least intense want that will be, gratified. Thus it is 
the marginal utility that is gained or lost by the addition or 
withdrawal of a single unit of the supply. The value or im- 
portance of a unit of the good is, therefore, measured by its 
marginal utility. It is because of this fact, that is, that con- 
sumers habitually measure the values in use of different goods 
by their marginal utilities, that low instead of high values are 
ascribed to such indispensable things as wheat, salt, sugar, 
etc. Such commodities would be immensely valuable if the 
available supplies of them were not enormously great. As 
it is, in normal times, their marginal utilities and consequently 
their values in use are low. In this explanation we have 
spoken of marginal utility as a conception applying to the 
least important unit of a stock of a good. But when there is 
only one unit of a good available then the utility of that unit 
is necessarily the marginal utility. We may therefore formu- 
late our conclusion as a general law, as follows : the values 
in use of economic goods are measured by their marginal 
utilities. 

§ 52. In order not to misunderstand the above law the 
reader should carefully note its limitations. In the first place 
it refers to the valuations of an isolated individual uninflu- 



MARGINAL UTILITY AND VALUE Ql 

enced by the opinions of others. How the complications of an limitatio 

organized industrial society affect the situation is considered o^-*-^ove 

later (Section 55). Second, calculations of marginal utility 

or values in use are always prospective. The consumer antici- tions 

pates wants that he expects to feel in the future, judges by Always 

past experience what goods will serve to gratify them and Prospect! 

estimates the importance of these goods by reference to his 

anticipations. As " there is many a slip 'twixt the cup and 

the lip," so calculations of marginal utility may prove to have 

been quite inaccurate when the goods to which they apply 

are actually consumed. 

A third limitation is that the law " values in use are Valuatio] 

measured by marginal utilities " refers to the valuation of defers to 

single units of goods. This corresponds to our habitual mode J^^^ ^ 
'^ * ^ Units, noi 

of making valuations. When iron is said to be less valuable -^hole 
than gold it is meant that, under the ordinary conditions of stock, 
supply, a pound of iron is less important to man than a pound 
of gold. Every change in the supply of an economic good of 
course changes its marginal utility and therefore its value. 
This fact makes the value of a single unit multiplied by the 
available supply of units quite misleading as an index of total 
importance. Multiplying the slight value of a pound of iron 
by the number of pounds in existence would give a total repre- 
senting very inadequately the value of iron to man. To obtain 
even an approximate notion of the importance of the total sup- 
ply of a commodity we should have to add together the separate 
utilities of all the different units used by man. Since calcula- 
tions in regard to utilities assume even approximate precision 
only when marginal units of different goods are being com- 
pared, such a summing up of utilities could not in practice 
be made. It is evident from general considerations, however, 
that the total utility of iron, so determined, would vastly ex- 
ceed the total utility of gold. The total utilities of indispen- 
sable free goods, like air and water, calculated in the same 
way, would, of course, exceed the total utilities of economic 
goods, like gold and iron, which, though highly important, are 
yet not absolutely essential to human life. 

A fourth and last point, closely related to the foregoing, is 
that the marginal utility which measures the value of a single 



92 



VALUES IN USE 



Marginal 
Utility 
Always 
Affected by 
Amount of 
Supply, 



Value and 
Marginal 
Cost or 
Disutility. 



unit of a good is large or small depending upon the number 
of units that are available. The circumstances that control the 
supplies of economic goods determine values in use quite as 
much as the want scales of consumers. Air and water gratify 
intense wants but their marginal utilities, and therefore their 
values, are usually negligible because they are superabundant. 
Other things, like old manuscripts or rare jewels, gratify 
wants that are much less intense, but because of their rarity 
have high marginal utilities and therefore values. This con- 
nection between the scarcity of economic goods and their 
values is sometimes called the paradox of value. As students 
of economics, we must always have it in mind to avoid drawing 
false conclusions in reference to the relations between men 
and goods. Thus a mistake that is very commonly made in 
discussing economic goods in the aggregate, or wealth, is to 
assume that an increase in wealth is necessarily a good thing 
for mankind. Such an increase is a good thing if it results 
from a multiplication of want-gratifying goods. It may re- 
sult, however, from changes which merely enhance the values 
of certain goods by limiting their supplies. Thus a wheat 
corner might increase the value of a country's wheat supply, 
and thus enlarge this item in the wealth of the community, 
although it lessens rather than increases the general well- 
being. Or, to give a more extreme example, it is conceivable 
that a group of men might secure a monopoly of the available 
sources of water supply for a city and by adopting a selfish 
policy make highly valuable what under a different system 
would be virtually a free good. 

§ 53. In the preceding section the valuation process has 
been considered from the point of view of the gratifications 
which goods afford as they are consumed. Another point of 
view is that of the pains and sacrifices involved in producing 
them. To simplify the problem, consider the mental processes 
of a man living in isolation, like Crusoe on his island, when 
valuing the products of his own toil, as, for example, the 
arrows which he must laboriously whittle out as a means to 
procuring game. Besides the utility of these arrows there 
would be in his mind vivid associations connected with the cost 
of making them. In fact until he became quite expert with 



MARGINAL DISUTILITY AND VALUE 93 

the bow and could tell quite accurately what an arrow was 
worth to him in game, he would probably value his arrows in 
accordance with the labor they cost him. One arrow would 
be worth perhaps an hour's labor. But an hour's labor, from 
the point of view of the sensations that accompany it, may 
mean anything from the pleasurable activity of the first hour 
after a refreshing night's sleep, to the painful drudgery of the 
last hour of the day when all of the faculties are crying out 
for rest. According to which of these standards is the im- 
portance of an hour's labor gaged? As on inquiring before 
which utility determines value, so now on inquiring which 
disutility of those which stand for the different hours of work 
throughout the day determines cost, we must consider what 
Crusoe would gain if an hour's toil were spared him. Ob- 
viously, he would gain most by stopping work an hour earlier. 
It is the last hour of the day that involves most disagreeable 
effort or that has the greatest disutility. If an hour is to be 
cut off from the working day it is from this trying last hour 
that one would wish to be relieved. It stands in the mind for 
the cost of an hour's work, and in valuing an arrow according 
to its cost it is to it that Crusoe's thoughts would revert. If 
we call the disutility of this last hour the marginal disutility 
we may say that the value of a good, judged from the point of 
view of cost, is determined hy the marginal disutility of the 
labor time necessary to its production. Men who, like Rob- 
inson Crusoe, produce for themselves the things which they 
consume, may value their possessions either by reference to 
their marginal utilities or to the marginal disutilities of the 
labor involved in their production. It is hardly necessary to 
add that in practice the determination of the cost of an hour 's 
labor is comparative rather than absolute, just as is the de- 
termination of the utility of the resulting good. 

Since the disutility of each hour's work is compensated by 
the utility of the product resulting from it, the tendency of 
the economic man is to continue his labor until the disutility 
it entails is just balanced by the utility it affords. Every ad- 
dition to his labor increases its disutility; every addition to 
the product, according to the familiar principle, diminishes 
its utility. At some point disutility will cease to be fully 



94 



VALUES IN USE 



Graphic 
Representa- 
tion of 
Relation 
Between 
Utility and 
Disutility. 



compensated for in utility, and at that point labor must stop 
if an economic loss is to be averted. 

§ 54. The contrast between gratifications and sacrifices in- 
dicated in the above analysis of value may be illustrated 
graphically. Let distances along the line OX in the following 
figures represent either units of commodity or hours of labor, 
and distances along the perpendicular line OY represent the 
utilities of different units of commodity or the disutilities of 
hours of labor. Erecting side by side on the line OX and 
parallel to the line OY narrow parallelograms represent- 
ing the diminishing utilities of the successive units of com- 
modity resulting from a day's work, we have the following 
figure : 



o 



1 2 



6 7 8 



-X 



Fig. 1. 



The area of all these parallelograms taken together repre- 
sents the total utility of all of the products of the day's labor, 
and it will involve no very serious error to represent this total 
area as bounded by a curve extending from the Y axis to the 
parallel line representing the marginal utility produced dur- 
ing the day, as follows : 



GRAPHIC ILLUSTRATIONS 



95 



T 

A 



O 



Total Utility 



G 



Fig. 2. 



In a similar way narrow parallelograms representing the 
increasing disutilities of successive hours of work during the 
day may be erected side by side on the line OX and parallel to 
the line OY, giving the following figure: 



o 



12345678 
Fig. 3. 



96 



VALUES IN USE 



As before, this may be simplified by combining the narrow 
parallelograms into an irregular area bounded by a curve, as 
in Figure 4: 




Fig. 4 



If the exact equilibrium between marginal utility and mar- 
ginal disutility, which is the goal of economic conduct, be 
achieved, the lines BC in Figures 2 and 4 will be of the same 
length, and the figures may be superimposed as follows : 




Fig. 6. 



VALUE IN INDUSTRIAL SOCIETY 97 

The " surplus utility " area, A B D, in this figure repre- Surplus 
sents the gratification an isolated producer derives from the Utility, 
consumption of the fruits of his toil over and above that which 
compensates him for his sacrifices in production. From the 
point of view of economics, the existence of this surplus is 
what makes life worth living. 

As in all uses of the graphic method to illustrate economic 
principles, the above diagrams involve assumptions in regard 
to the exact measurement of utilities and disutilities, which 
are untrue to the complex facts of life. Their sole purpose 
is to help the reader to visualize the contrast between utilities 
and disutilities and the tendency of economic men to stop 
work, so far as they can control the length of their work day, 
when its continuance involves a greater sacrifice than will be 
compensated by its reward in products. 

§ 55. The valuations of a Crusoe are necessarily crude and Marginal 
inaccurate because he has only his own judgment and ex- Utility and 
perience to rely upon. In industrial society the valuations "^al'i^i^ 
of each individual are supplemented and corrected by the _ . 
valuations of other individuals. Judgments in regard to the 
importance or marginal utilities of different goods are collec- 
tive or social and for this reason are more precise than they 
can be for men in isolation. 

The simplest case of social valuation is presented in connec- 
tion with a commodity like wheat flour, which serves a variety 
of uses in every household and the want for which on the 
part of the normal family is quite elastic. According to the 
familiar principle of diminishing utility each family's con- 
sumption of wheat flour may be arranged in a scale in which 
the high utilities of the more important units will come first 
and the low utilities of the less important units last. At the 
very end will stand the marginal utility of the least important 
unit consumed. As all families consume numerous units of 
wheat flour, and as this consumption is carried in most fam- 
ilies not to the point of satiety, but only to the point at which 
the sacrifice involved in paying for additional units is not 
fully compensated by their utilities, all families value a unit 
of such flour approximately in proportion to its marginal 
utility to themselves. In this case all consumers contribute 



98 



VALUES IN USE 



l^arginal 

Utility 

Estimated 

by 

Marginal 

Consumers. 



Valuation 
even of 
Single 
Goods is 
Complex. 



something toward the determination of the social valuation 
upon which depends the relative importance of a unit of 
wheat flour in comparison with units of other goods. 

While the consumption of wheat flour is probably not car- 
ried to the point of satiety by most families, the consumption 
of many cheaper commodities habitually is. A commodity 
like salt, for example, is not an object of painstaking economy 
to the well-to-do, but virtually a free good. Its marginal 
utility to the average family is a negligible quantity because 
it is consumed as a matter of course down to the point of 
satiety. The value of such an article is determined by its 
marginal utility not to the well-to-do, but to the very poor, 
to whom even the small price of a bag of salt is a burden, 
and to those who use it in connection with industrial pur- 
poses (e. g., in the salt-flsh industry, in removing ice from 
the tracks of street railways, etc.). The value ascribed to it 
in these connections determines its importance in comparison 
with other commodities. In the same class as salt are matches 
and the other cheap articles which are consumed daily by rich 
and poor alike. Such articles are no longer objects of economy 
to the well-to-do, who pay for them what market conditions 
require and would continue to buy the same quantities, that is, 
all they have any possible use for, even if the prices they had 
to pay were doubled or trebled. In such eases values, or the 
comparative importance of units of different goods, are de- 
termined by the marginal utilities of single units of such 
goods, not to each individual consumer, but to consumers 
generally. Well-to-do consumers exert no influence because 
they consume all that they wish with little reference to what 
they must pay for such goods. This leaves the task of valua- 
tion to consumers who are less well off and to others who use 
the articles as materials for further production. 

A second characteristic of valuations in industrial society 
rests on the fact that most goods are not simple utilities, 
but bundles of utilities. A suit of clothes, for example, is 
not merely a protection from cold and damp. The modem 
man pays for this utility in his clothes, but he pays much 
more for the comfort and elegance of the fit, the social dis- 
tinction attaching to the fineness of the goods, etc. Since 



VALUATION PROCESS COMPLEX 99 

valuation consists in ascribing importance to goods in pro- 
portion to their marginal utilities, it involves as many separate 
steps as there are separate utilities in the goods to be valued. 
Social valuation differs from that of a Crusoe in that these 
separate steps are taken by different classes in the community. 
In the case of clothes, the well-to-do class which patronizes 
fashionable tailors takes the warmth and comfort of its gar- 
ments for granted. These utilities are required also by the 
less prosperous classes in the ready-made clothes which they 
buy and are valued by them, or even, as regards warmth, by 
the still poorer classes who buy second-hand clothes. The 
patrons of fashionable tailors give their thought to deciding as 
to the marginal utility to them of the style of cut and dis- 
tinction of finish. Perhaps the best illustration of this point 
is presented in the valuation of watches of different grades. 
Nearly every one wants one fairly accurate pocket timepiece 
and few have use for more than one. The money equivalent 
of the marginal utility of this primary quality in a watch is 
very great to the well-to-do classes, and if the value of this 
quality were fixed by them it would be represented by many 
dollars. But the conditions of production are now such that 
fairly good timekeepers are brought within the reach of all. 
The marginal utility which determines the value of this quality 
is therefore that to people in very moderate circumstances. 
The watches of the well-to-do have in addition to this primary 
requisite, durability, beauty, power to give social distinction 
to their owners, extreme accuracy as timekeepers, etc. It is 
these qualities that the well-to-do value according to their 
marginal utilities to themselves rather than the primary qual- 
ity common to all honest watches. The value of a watch is 
the sum of the values assigned to each one of its qualities by 
the classes to which these qualities stand as marginal utilities. 
As a timepiece it is valued by the people who can just afford 
to have a timepiece, as a durable timepiece it is valued by a 
higher class in the economic scale, as a durable timepiece en- 
cased in silver it is valued by those just able to have silver 
watches, as a gold-cased watch it is valued by people in still 
better circumstances, etc. In each instance the value ascribed 
to the quality added just before is carried over to make a part 



100 



VALUES IN USE 



Valuation 
Collective 
Process. 



lyiarginal 
Cost and 
Value in 
Industrial 
Society. 



of the value of the watch to which still another quality has 
been added. The value assigned to this last quality is added 
to the values previously determined to make the value of the 
whole watch. Thus the value of any good which is made up of 
a bundle of qualities is the result of a collective rather than 
of an individual calculation of marginal utilities. 
^ The three illustrations that have been given are typical of 
the valuations that are made in industrial society. As mem- 
bers of society all of us take for granted the values of many 
of the goods we consume. We concern ourselves seriously 
only about the utilities which in our scale of consumption 
happen to be marginal. Thus the value of each good depends 
upon its marginal utility to the group of consumers to whom 
it is an object of economy. If it is composite, its value is the 
sum of the marginal utilities of its different qualities to the 
groups to which these qualities are objects of economy. Values 
in use are still measured by marginal utilities but the measure- 
ment is effected not by any single individual but by com- 
bining the calculations of many individuals. 

§ 56. In the economic calculations of a Crusoe, as we have 
seen, marginal disutility may serve, as well as marginal utility, 
as a gage of the value of the goods that are produced and 
consumed by the same person. The calculation of disutility, 
or cost of production, in industrial society, where goods are 
produced normally for the market, that is, consumed by quite 
different persons than those who produce them, is so complex 
that its influence on values is not easily established. In this 
treatise we can do no more than indicate some of the intricacies 
of the problem and the direction in which the connection be- 
tween disutilties and values, so far as it exists, is to be sought. 
Disutility, or cost of production, includes all of the painful 
and disagreeable sensations that men experience in connection 
with production. Each such sensation stands for a sacrifice 
and unless the results of production fully compensate all those 
who have made sacrifices, it has entailed loss in well-being. 
So long as attention is confined to the production of a Crusoe 
the painfulness of prolonged effort may stand by itself for 
these sacrifices, but for industrial society with its subdivision 
of functions a more precise analysis is necessary. In addition 



COSTS IN INDUSTRIAL SOCIETY 101 

to the painfulness of effort is another sacrifice which we may 
describe as postponing consumption or waiting. This is in- 
volved more or less in all branches of production. The work- 
man who labors only eight hours a day may not prolong his 
effort to a point where it is painful, but he is sure before the 
day is over to feel that he is making a sacrifice in continuing 
at his bench when he might be out in the street or at home 
with his family. Postponing consumption even until the 
whistle blows is one of his costs of production. But under 
present conditions the postponement required is much longer 
than this. Modern production is indirect or roundabout. 
Materials, tools, machines, etc., are produced as aids to the pro- 
duction of consumable goods, and on the average a long period 
of waiting must intervene between the first steps in production 
and its issue in goods which are ready for consumption. The 
postponement of consumption which this entails is one of the 
essential conditions to efficient methods of production. It is 
also a condition the necessity of which is frequently overlooked 
by wage-earners. They experience the painfulness of effort 
and they must perforce abstain from consumption during 
their working hours, but the conditions of their employment, 
as a rule, insure them their wages by the week or the month 
irrespective of the stage of completion of the goods which 
they help to produce; and the conditions of their lives, as a 
rule, cause them to spend these wages for consumable goods 
as soon, or nearly as soon, as they earn them. Postponing 
consumption so that production may be carried on in a round- 
about way is the economic service rendered by those who save 
and invest their incomes instead of spending them, and thus 
become capitalists. In saying that postponing consumption 
entails a sacrifice, economists mean merely that to the average 
man spending is more congenial than saving. Often the re- 
verse is the case. Misers derive a positive pleasure from sav- 
ing and gloating over their possessions. Rich people save much 
more easily than poor people. Nevertheless, to the average 
man saving is disagreeable and involves a sacrifice. If this 
were not the case the premium which savings banks are con- 
stantly offering to those who will patronize them would cause 
all incomes to be saved, until the community was so super- 



102 VALUES IN USE 

abundantly supplied with capital that interest v»?ould no longer 

be paid for its use. 
Complica- Another complication involved in calculating costs grows 
ions in ^^^ ^£ ^j^g £^^^ ^YiQ^t production, as carried on in industrial 
Calculation . , . .. . -^ . , . ^ 

of Social society, IS a cooperative process. Many men unite their efforts 

Cost. to produce even the simplest good. It follows that the cost of 

production of each good is a sum of sacrifices to which many 
different individuals have contributed. "Workmen of different 
grades and different capitalists, each contributing only a part 
of the capital used, have a share in it. Moreover, since cost 
is at bottom a question of individual feeling, its amount de- 
pends quite aS much on the character and circumstances of the 
producer as upon the productive act which he performs. As 
a rule those doing the same sort of work are sufficiently alike 
to make general statements in regard to the cost of that work 
admissible, but there are many productive services which are 
rendered by individuals belonging to quite different classes 
and whose costs are accordingly quite different. The most 
common causes of differences in costs are differences in wealth. 
Every increase in income brings with it the possibility of in- 
creased enjoyment from consumption. The man who has only 
what he earns from day to day and who earns only enough 
to supply him with the requisites to decent living has little 
to tempt him from his work. If his daily round of tasks is 
painless it involves a minimum of sacrifice, as he has little to 
turn to outside of the factory. Give the same man an income 
from investments equal to what he earns by his work and the 
sacrifice involved in that work is increased. Increase his in- 
come from investments until he has enough to live on luxuri- 
ously without working at all. and he is more likely than not 
to find the labor, which before was not felt to be a burden, so 
irksome and unpleasant that he will give it up entirely. The 
character of the work has not changed, but the circumstances 
of the man have, and as a result there is a multiplication of 
cost. In the higher grades of employment where men with 
independent means work at the same tasks with men who have 
no other sources of income, differences in costs are so common 
as to make general statements about costs hazardous. The 
most important instance of such differences is in connection 



VALUATION OF COMPLEMENTARY GOODS 103 

with the service of postponing consumption, or waiting, ren- 
dered by owners of capital. Included among such owners are 
all sorts and conditions of men from millionaires to dollar-a- 
day laborers. Society values the services they render by refer- 
ence not to the sacrifices that are involved for them individu- 
ally in the accumulation of capital, but to the amount of 
capital they accumulate. The wage-earner's meager savings 
assist production no more and are no more important dollar 
for dollar than the inherited millions of the idle rich. Where 
the same productive services involve different degrees of sac- 
rifice for different producers, it is the sacrifice to marginal 
producers, or those whose sacrifice is greatest, that must be 
counted in the cost of production. This must be compensated 
by the utility of the product or it will not be incurred any 
more than will an uncompensated last hour's labor be per- 
formed by an isolated producer. The calculation of the cost 
of production in industrial society is thus a very complex 
process, and any balancing of marginal cost or disutility 
against marginal utility must be roundabout and difficult of 
analysis. We shall return to it in Chapter XVIII. 

§ 57. A special case of valuation of the greatest importance Valuation 
is that of complementary goods. Many wants are gratified °^ Compie- 
not by one good but by a complementary group of goods, the "^^^^^y 
presence of every element in which is necessary to the result. 
In such a case the whole group is valued as a unit in accord- 
ance with the principles just explained, and the valuation of 
each good in the group is the result of a separate calculation. 

An illustration is furnished by a gun and cartridges. With- 
out the cartridges the gun is valueless, without the gun the 
cartridges are of no use. In this case if the user has occasion 
to put a value on either he must ascribe to it all of the im- 
portance that belongs to both. In industrial society com- 
plementary goods have, as a rule, independent uses to which 
they may be applied. In the case of a gun and cartridges, the 
cartridges, at least, or their component parts, may be turned 
to other purposes. This opportunity for independent use fur- 
nishes grounds for independent valuation and makes it possible 
to calculate by a process of subtraction the value of the good 
which is useful only in the complementary^ group. The value 



104 VALUES IN USE 

of the whole group is measured by its marginal utility. The 
values of the elements in the group which serve other purposes 
are determined by their marginal utilities in these independent 
uses. The difference between the value of the whole group 
and the sum of these independent values is properly ascribed 
to the element or elements which are of use only in the group. 
If the group is made up of several elements, the process of 
valuation may be exceedingly complex in practice, but the 
considerations involved are readily understood. 
The Factors Ti^e most familiar complementary groups that men have 
m ro uc- occasion to value are those made up of producers' goods. As 
ComDlemen- pi'oduction is now carried on every step in the productive 
tary Goods, process involves the cooperation of several complementary 
factors. The value of each group of factors is derived from 
that of the consumable goods which it is helping to produce. 
Consumable goods gratify wants directly and may be valued 
by reference to the intensities of these wants. Groups of pro- 
ducers ' goods do not gratify wants directly and owe the im- 
portance or value ascribed to them to the part they play in 
the production of consumable goods. Although a derived 
value, the valuation of complementary groups of producers' 
goods obeys the same principles that apply to groups of con- 
sumable goods. The value of the whole group is calculated 
by reference to the value of the consumable goods to result 
from it. The values of different elements in the group are 
determined as far as possible by reference to the independent 
uses to which they may be put. The value of the whole less 
the values assigned independently to the elements for which 
there are other uses is the value to be ascribed to the element 
or elements that have no independent uses. In practice th«se 
calculations are often very complex and could hardly be made 
at all but for the intermediation of money, the common 
medium in which they are all expressed by the business com- 
munity. 
The Margin § 58. As already explained, the calculations in reference 
of Con- ^Q marginal utilities upon which values in use depend are 
sump ion. gQQjp^pa^iyg rather than absolute. They approach precision 
only when there are a number of different goods to be valued 
and the consumer is given a choice between additional units 



EXCHANGE VALUES ARE RATIOS 105 

of one or the other of them. In such cases marginal utilities 
must be carefully balanced against one another if an unwise 
selection is to be avoided. The typical consumer of industrial 
society is an individual with numerous and varied wants hav- 
ing access to markets in which numerous and varied goods 
capable of gratifying these wants are offered for sale, but 
limited in his means so that many of his wants must go un- 
gratified. Successive units of each particular good offered 
for sale obey the law of diminishing utility. In order to get 
the largest return from the expenditure of his limited means 
the consumer must consider the law of variety. He must not 
buy an additional unit of one good when a unit of some other 
good which may be had at the same, or a lower, price has 
greater utility. In general he should carry his purchases of 
units of different goods which he desires down to the point at 
which the returns in utility for his last units of expenditure 
are approximately the same all along the line. Only under 
these conditions is he getting the largest possible return in 
utility for his expenditures. Economists sometimes speak of 
the marginal utilities of all of the goods which a person con- 
sumes as determining the location of his margin of consump- 
tion. This margin should be as even as possible to insure the 
maximum return in gratification to the consumer with limited 
means. 

§ 59. As the practice of bartering goods for one another has importance 

given way to the more convenient plan of selling goods for ofl*"ce 

, 1 • , n 1 Phenomena, 

money, prices, exchange values m terms oi money, have come 

to be the central phenomena of industrial society. Business 
men do not now compare commodities by saying that so much 
of one exchanges for so much of the other, but by noting their 
prices. They do not say, for example, that a bushel of wheat 
is the equivalent of two bushels of corn, but that the price 
of wheat is one dollar a bushel and of corn fifty cents. In 
conformity with this practice the discussion of the circum- 
stances which determine exchange values in the next chapter 
is couched in terms of prices. 

The first principle in reference to exchange values that must Exchange 

be emphasized is that as ratios they can neither rise nor fall "^^^^^^ 

. Arc IL^tios 

as a whole. Values in use, measured as they are by marginal 



106 



VALUES IN USE 



The Value 
of Money 
May 
Change. 



The Value 
of Money. 



utilities, may increase, but values in exchange cannot. A 
change in the exchange value of a particular good always 
and necessarily involves complementary changes in the ex- 
change values of other goods. For example, if the exchange 
value of a bushel of wheat increases from one bushel of corn 
to two bushels of corn, the exchange value of corn has dimin- 
ished from one bushel of wheat to half a bushel of wheat. 
Exchange values as a whole cannot be said to have changed 
at all. 

It is equally important to note that the exchange value 
of any single good may increase or decrease, and that this is 
as true of money, the commodity in which prices are expressed, 
as of other goods. When the exchange value of money in- 
creases prices fall ; when it decreases prices rise. Thus when 
a dollar will buy two bushels of wheat instead of one its value 
in wheat has doubled, but the price of wheat has been cut in 
two. As prices are the barometer which guides business men 
in all their transactions it is of the greatest importance that 
that commodity should be selected to serve as money which 
is least likely to fluctuate in its exchange value. 

§ 60. The value in use of a unit of money, or of a dollar, 
like the value of anything else, is man's estimate of its mar- 
ginal utility. This is identical with the marginal utilities of 
the goods which his marginal dollar will buy. Each man has 
a certain money income to expend and a certain scale of wants 
to gratify. His effort is to get the largest possible return for 
his outlay. To accomplish this he must consider the prices 
of things quite as much as their utilities. His first dollar 
should go for that combination of goods having the greatest 
utility, his second for a somewhat less needed combination, 
and so on, each dollar adding somewhat less to his store of 
utilities than its predecessor. The marginal utilities of the 
goods purchased with his last available dollar measure the 
value of a dollar. It is these goods that the additional dollar 
adds to his store ; take the dollar away and it is these goods 
that he must forego. They measure the importance, or value, 
of a single dollar in his scale of living. 

Few people, even among those who regularly spend their 
entire incomes for the gratification of their wants, estimate 



ADAM SMITH ON VALUE 107 

the value of a dollar as rigidly as the above analysis implies, 
and yet every one as a result of his business experience has a 
pretty accurate notion of the value of the monetary unit. 
If parents sometimes complain that their children are without 
such a conception, it is a proof merely that conditions have 
changed since they were young and that the value of a dollar 
to their children is actually less than to themselves. In the 
minds of intelligent men the value of a dollar includes not 
merely the utilities of consumable goods, but leisure for enjoy- 
ment, social esteem and influence, the perpetuation of the 
family name and family traditions — everything, in short, 
which command over dollars may secure and which seems to 
them desirable. It is probably true also that some people wor- 
ship dollars in a quite irrational way for their own sake, 
though misers who have no ulterior motive beyond hoarding 
up money are more common in fiction than in real life. 

§ 61. Until about forty years ago, treatises on political Adam 
economy regularly entered upon the discussion of values in S^^^^^s 
exchange without having given any special consideration to pisg^gsjj^g. 
the values in use, upon which they depend. As Adam Smith value, 
was largely responsible for this practice, it is worth while to 
recall how he came to fall into such a serious error. In his 
Wealth of Nations * he defines values in use and values in 
exchange very much as we have done. Then, after asserting 
that value in use is an essential condition to value in exchange, 
he goes on to prove that they have no further relation to 
each other by comparing the value of water with the value of 
a diamond. His exact words are: " The things which have 
the greatest value in use have frequently little or no value in 
exchange ; and, on the contrary, those which have the greatest 
value in exchange have frequently little or no value in use. 
Nothing is more useful than water, but it will purchase scarce 
anything; scarce anything can be had in exchange for it. A 
diamond, on the contrary, has scarce any value in use, but a 
very great quantity of other goods may frequently be had in 
exchange for it." The fallacy in this reasoning is obvious. 
The logical contrast is not between the value of water in 
general and of a diamond, but between the value of a partic- 
* Book I., Chap. IV. 



108 VALUES IN USE 

ular volume of water, such as a quart, and of a diamond. If 
Adam Smith had concentrated his attention on the value in 
use of a quart of water in the little Scotch village of Kirkcaldy, 
where he penned these sentences, he never would have asserted 
that the value of water was so great. On the other hand, in 
speaking so slightingly of the value of a diamond, he is passing 
from the economic to the moral point of view. Perhaps a 
diamond ought to be of slight utility to men, but with human 
desires and the supply of diamonds as they are, it is very 
certain that it is not. 

As is shown in the next chapter values in exchange are 
vitally dependent upon values in use. The calculations of 
consumers, their balancing against one another of the marginal 
utilities of units of goods at their margins of consumption, 
choosing those units Avith the larger utilities and rejecting 
those with the smaller, determine the demand for the com- 
modities that are bought and sold in the markets of the world 
and this demand is one of the two factors that determine 
values in exchange. 

REFERENCES FOR COLLATERAL READING 

*SeUgman, Principles of Economics, Chaps. XII. and XIII.; *Clark, 
Essentials of Economic Theory, Chap. VI.; Smart, Introduction to the 
Theory of Value; *Bdhm-Baiverk, Positive Theory of Capital, Book III.; 
*Pierson, Principles of Economics; Part I., Chap. I. 



CHAPTER VII 
VALUES IN EXCHANGE AND PRICES 

§ 62. The circumstances which at last analysis determine The Deter- 

the money prices of goods and services are exceedingly com- "^i^iatioii of 

Fpiccs 
plex. To understand them completely one must comprehend 

every phenomenon of economic life. Nevertheless the actual 
process by which money prices are fixed is comparatively 
simple. Buyers and sellers come together each with definite 
notions as to what the prices should be, and the prices finally 
fixed are the result of their bargaining. 

On the side of buyers the following calculations are com- Buyers' 
monly made: (1) They decide in regard to the values in use Calcula- 
of the different goods offered for sale, and if they think of 
getting more than a single unit of each good they consider 
the values of additional units. In this connection, as already 
explained, marginal utilities are decisive. (2) They decide 
as to the prices that they are willing to pay. As regards most 
of the goods purchased there is no hesitation. Experience has 
taught that at the prices at which they may ordinarily be 
purchased they afford the greatest return in gratification to 
be derived from the expenditure n£cessary to such purchase. 
Thus the general level of prices is a circumstance that always 
influences buyers, though they are so accustomed to thinking 
of the prices of staple articles as relatively fixed that they 
usually give little thought to it. The average family purchases 
flour, sugar and the other staples that enter into the con- 
sumption of every household as a matter of course. Delibera- 
tion begins only after these necessaries are secured, and the 
question is how to get the largest return for the sum that 
remains to be expended. Buyers vary greatly in the intelli- 
gence they show in disposing of their surplus incomes. Some 
expend them regularly for goods which they do not really 
need, but which attract by their novelty. Less impulsive 

109 



110 



VALUES IN EXCHANGE AND PRICES 



culations. 



buyers have in mind several different goods which they would 
like to have. These are arranged in their minds in a rough 
scale which enables them to decide promptly which of two 
goods they would prefer at the same price, or whether at 
different prices the dearer good is worth, in their scale of 
consumption, the difference. In all of these calculations the 
value they ascribe to the monetary unit is quite as important 
in directing their purchases as the values they ascribe to the 
goods bought. 
Sellers' Cal- The calculations of sellers are usually somewhat more pre- 
cise than those of buyers. (1) They know pretty closely how 
much the goods they have to sell have cost them in money, or 
their expenses of production. Since they are in business for 
profit, sellers look upon the expense of producing a unit of a 
commodity as a minimum price, less than which they cannot 
afford to take except under unusual circumstances. Different 
sellers have, of course, different expenses of production, so 
their minimum prices may vary within a considerable range. 
(2) They have accurate information in regard to the current 
prices of goods and on the basis of this knowledge decide what 
prices they ought to obtain. At this point sellers are in- 
fluenced by standards made for them by market and other 
social conditions, just as buyers are influenced to a certain 
extent by the standards of others in calculating the values in 
use of different goods. 

§ 63. It will simplify the explanation if the reader will 
imagine the prices which buyers are willing to pay and which 
sellers are willing to accept as grouped together in a buyers' 
price scale, on the one hand, and a sellers' price scale, on the 
other. Such scales must of course refer to definite quantities 
of the goods to be bought and sold and to a particular market. 
By a market we mean the place or conjunction of means of 
communication through tvhich buyers and sellers are brought 
together for the exchange of economic goods. To give greater 
precision to our discussion we shall use, in place of the phrase, 
" buyers' price scale," the phrase, " demand scale," and in 
place of ' ' sellers ' price scale, " " supply scale. ' ' As we shall 
employ these terms, demand signifies the number of units of a 
good that buyers are ready to purchase at a given price; supply 



Price 
Scales 



Definition 
of a 
Market. 



DEMAND AND SUPPLY SCALES 



111 



the number of units that sellers are willing to part ivith at a 
given price. Both expressions of course, refer to a particular 
period of time in a particular market. Thus the following 
would be typical demand and supply scales for wheat * : 



At 



At 







Demand 


8ca 


le 


$.90 


buyers 


would take 


10,000,000 bushels 


.91 




). ) 




9,500,000 


.92 




„ , 




9,000,000 


.93 




)) ! 




8,500,000 


.94 




>J , 




8,000,000 


.95 




» ; 




7,500,000 


.96 




J,' > 




7,000,000 


.97 




„ , 




6,000,000 


.98 




„ , 




5,000,000 


.99 




5> J 




4,500,000 


1.00 




5J ) 




4,000,000 


1.01 




„ , 




3,500,000 


1.02 




>J J 




3,000,000 


1.03 




„ , 




2,000,000 


1.04 




„ 




1,000,000 


1.05 




,, 




500,000 






Supply Scale 


$.90 


sellers 


will part 


with 500,000 bushels 


.91 


„ 


„ „ 


„ 


1,000,000 


.92 


„ 


jj )j 


„ 


2,000,000 


.93 


„ 


J! ij 


„ 


3,000,000 


.94 


„ 


>! )J 


„ 


3,500,000 


.95 


„ 


)) J> 


„ 


4,000,000 


.96 


„ 


„ „ 


„ 


4,500,000 


.97 


„ 


» JJ 


„ 


5,000,000 


.98 


„ 


„ „ 


„ 


6,000,000 


.99 


„ 


„ „ 


„ 


7,000,000 


1.00 


„ 


!> >J 


„ 


7,500,000 


1.01 


„ 


» ;j 


„ 


8,000,000 


1.02 


„ 


„ „ 


,, 


8,500,000 


1.03 


„ 


» 5) 


„ 


9,000,000 


1.04 


,, 


„ „ 


>' 


9,500,000 


1.05 


» 


>J JJ 


„ 


10,000,000 



Ideally, provided the requisite information were available, 
demand and supply scales could be drawn up for any com- 



* In actual practice price changes for wheat on a modern produce ex- 
change are recorded not in cents, but in fractions of a cent, and the 
number of bushels dealt in would often be much larger than indicated in 
these scales, which are, of course, only illustrative. 



112 



VALUES IN EXCHANGE AND PRICES 



Data for modity in any market; actually only omniscience could draw 
^"°® up scales accurately even for a commodity like wheat in a 

, . well-organized produce exchange. This is because such scales 

must be derived from the personal scales of hundreds and 
even thousands of potential buyers and sellers and these 
cannot easily be estimated because the success of buyers 
and sellers often depends upon their secretiveness with refer- 
ence to their transactions, both actual and contemplated. 
Moreover these personal scales assume precision only at or 
near the current market price. If, for example, wheat is sell- 
ing for a dollar, produce brokers and their active customers 
will have fairly definite ideas as to whether to buy or to sell 
at that price and in what quantity. They will also have fairly 
definite plans as to the quantities they will buy or sell if the 
price advances or recedes fractionally from a dollar. Few 
of them, however, will have taken the trouble to calculate how 
much wheat they would wish to buy or sell if the price ad- 
vanced to $1.10 or receded to $.90. A demand or supply scale 
is thus definite only with reference to prices at or near " the 
market." For prices substantially above or below the market 
it is vague and uncertain. That the information necessary to 
the construction of accurate scales even at or near market 
prices is not in the possession of any single individual does 
not alter the fact that it is the interaction of these scales that 
fixes prices. It merely explains why no one, so long as a 
market continues competitive, can predict with certainty what 
j price will be fixed on any given day. It is this element of 
I uncertainty or speculation characteristic of every free market 
which makes produce and stock exchanges the favorite resort 
! of gamblers as well as of legitimate traders. 

§ 64. There are four possible situations in which buyers 
and sellers may come together. The simplest is that in which 
one buyer bargains with one seller to secure a commodity 

which that seller alone offers for sale. The buyer has made 

Prices: One up his mind what price he will pay rather than not get the 

Buyer and commodity, but as an economic man he wishes to pay as much 

One Seller, j^^^ ^^ jg consistent with his sense of fair dealing. On the 

seller's side is a definite idea of the lowest price he can afford 

to accept, but his business interest calls for tfee highest price 



Four 
Possible 
Situations 
for Deter- 
mination of 



THE DETERMINATION OF PRICES 113 

he can get. If the buyer's maximum price does not exceed 
the seller's minimum price it is obvious that no exchange can 
take place. If it does, then the market price must lie some- 
where between these limits. Just where depends upon the 
relative skill of the two parties in bargaining. For example, 
the commodity to be sold may be a family portrait of no special 
artistic merit, which has come into the possession of a dealer. 
The dealer's supply price may be no more than $1.00, whereas, 
' the demand price of a member of the family, to whom it is a 
precious relic, may be as much as $500. It would be a poor 
dealer who under these circumstances did not get at least 
$100 for the portrait; but skill in concealing the extent of 
his interest might enable the purchaser to secure it for much 
less than this. 

A second and more common situation is that in which sev- Several \ 

eral buyers bargain with one seller who has a monopoly of ^y^^^^^ 

Only One 
the good which all the buyers want. This situation admits of ^^n^j. 

a variety of accompanying circumstances : 

(1) The monopolist seller may have only one unit of the 
desired good, as is often the case with dealers in antiques. 
In such a case the buyer who is prepared to pay the highest 
price will get the coveted object at a price between that offered 
by the next highest bidder and his own maximum price — 
unless, indeed, this last is less than the dealer is willing to 
accept. How this works out in practice is frequently illus- 
trated at auctions. The auctioneer puts the commodity, say a 
rare manuscript, up for sale. The different buyers present, 
representing perhaps dealers and collectors from many coun- 
tries, begin to bid for it. As the price advances from $1000, 
to $1200, $1500, $2000, etc., bidder after bidder drops out. 
Finally, the field is left to the two buyers whose demand 
prices are highest. One has bid $5000, the maximum that he 
is willing to pay. The other bids $5100. The auctioneer 
says, " going, going, gone," and the last bidder secures the 
prize for $5100, although his maximum price may have been 
$6000 or even more. Sometimes at auctions a minimum price 
is fixed which must be realized or the sale will be declared off. 
This is specially common in connection with auction sales of 
real estate to satisfy a mortgage or some other claim. In such 



114 VALUES IN EXCHANGE AND PRICES 

eases unless some bidder will offer at least the minimum price, 
the supply price, no sale can take place. 

(2) The monopolist seller may have several units of the 
'desired good and these may be incapable of reproduction. 

In this case he may pursue the plan of getting as much as 
he can for each unit as it is sold, as is usual at auctions, or 
of marking each with the highest price which he thinks he can 
get for all of them, as is usual with " one-price " dealers in 
antiques. If he pursues the first course the result will be 
similar to that in the first case. Each successive unit will go 
to the competitor who was just outbid by the more eager buyer 
who got the one before. In this case the prices received for 
different units may vary widely and if all are sold at one time 
will show a tendency to decline. If the seller pursues the 
second course and uses good judgment in marking his wares 
he will fix on the price which is just equal to the maximum 
which the buyer whose purchase is necessary to the sale of 
the entire supply is willing to pay, unless, of course, this is 
below the price which he is himself willing to accept, when 
some of the supply must remain on his hands. 

(3) The monopolist seller may have several units of the 
desired good and may be in a position to produce as many 
more units as he considers it profitable to put upon the market. 
This is the common case of monopoly and is so important that 
special chapters are devoted to it. At this point it will suffice 
to advance the fairly obvious propositions that anywhere be- 
low the limit fixed by the maximum price which the most eager 
buyer is willing to pay, the monopolist may fix the price by 
regulating the supply, and that, in so regulating the supply, 
he will try to fix the price that, in the long run, will afford 
him the largest aggregate monopoly profit over and above his 
expenses of production. 

One Buyer A third situation is presented when one buyer bargains 
l^^, ^^^^''^^ with several competing sellers. Perhaps the most common 
case of this kind is when a single city family goes in the 
summer to live in a country district where all other families 
produce for themselves all of the milk, butter, eggs, chickens, 
etc., which they require. Under such circumstances, if com- 
petition is permitted to work out its full effects, the new 



Sellers. 



TWO-SIDED COMPETITION 115 

family msiy get the country products it requires for the lowest 
prices the most eager sellers competent to supply all its needs 
are willing to accept. More frequently competition is re- 
strained by custom and the buyer has a choice between goods 
of different qualities rather than between different prices for 
the same goods. This third case of " buyer's monopoly " has 
resulted at times from the formation of the trusts discussed 
in Chapter XXV. When all of the manufacturers who use a 
particular kind of raw material combine, producers of the raw 
material are placed at a great disadvantage in bargaining. 
They may be forced to accept a price which is so low as to 
drive all but the most capable of them out of business. 

§ 65. The last and most common situation is that in which Two-sided 

there are several buyers and several sellers, among whom more °"^P^ ^" 

tion. 
or less active competition and bargaining are carried on. 

This is well illustrated in a modern produce market and in 

discussing it we may revert to the demand and supply scales 

for wheat, given in Section 63. The demand scale indicates 

the -quantities that buyers are willing to take at different 

prices. The supply scale, the quantities which, at the same 

prices, sellers are ready to part with. Fear that they may 

fail to get the supplies they desire will lead buyers to bid 

against one another; anxiety to realize the highest possible 

prices will deter sellers from disposing of their supplies until 

they are convinced that the maximum price for the time being 

has been reached. At $.95, as the scales show, 4,000,000 

bushels may be bought, but buyers stand ready to take 7,500,- 

000 bushels. This price is evidently too low. At $.96, 4,500,- 

000 bushels are available, but buyers are ready to pay for 

7,000,000. The price is still too low. Competitive bidding 

will advance the price to $.97. At this figure 5,000,000 bushels 

can be bought, but buyers want 6,000,000 bushels. Sellers, by 

holding back, can get a still higher price. Will the price go 

to $.98? No, because at this figure buyers will take only 

5,000,000 bushels, whereas 6,000,000 bushels are ready for 

sale. Free competition, guided by full knowledge and equal 

skill in bargaining on the side of both buyers and sellers, 

would fix the price somewhere between $.97 and $.98. At 

this price between 5,000,000 and 6,000,000 bushels would 



116 



VALUES IN EXCHANGE AND PRICES 



change hands, and only those buyers who were unwilling to 
pay as much and those sellers who were unwilling to accept 
as little as this would go away disappointed. Of course, in 
practice, full knowledge and equal bargaining power are 
rarely if ever present in a competitive market, so all that we 
can say with confidence is that free competition in the pur- 
chase and sale of a commodity among a number of buyers and 
sellers tends to bring about the result that we have described, 
that is, a price at which the maximum number of sales can 
be effected. 
Graphic § 66. We may represent the interactions of demand and 

Representa- gyppjy graphically by plotting curves corresponding to the 
sided Com- <^6mand and supply price scales. Taking the figures already 
petition. assumed for our wheat market and representing the one-cent 
variations in price assumed by equal distances along the per- 
pendicular line OY and the corresponding changes in the 
number of 100,000 bushel lots of wheat which buyers will 
take and which sellers will dispose of by equal distances along 
the base line OX we get the following demand and supply 
curves : 



Y 

105 
104 
103 
102 

s 100 

B 99 
^ 98 
2 97 

? 95 

ff 94 

(P 93 

92 

91 

90 








\ 




































/ 








^ 


^ 




























•^"^ 


/ 












\ 


■^ 






















rf 


f 


















\ 




















/ 






















\ 














N^ 


/ 


























\ 










y-f^ 






























\ 






^ 


i> 














— 


— 


- 


— 


-- 


•- 


-n 


--, 


— 


— 


-> 


< 




































/ 


1 




^ 






























/ 




1 
1 






^ 


'-. 
























/ 














X 


% 




















/ 








1 












a 














^ 


X 




















1 


i 


'^^1 


— 






^ 


^ 




























^ 




/ 




































\ 










































O 


5 1015 20 25 30 35 40 45 50 5560 65 70 75 80 85 90 951 
100,000 bushels 


00 X 



Fig. 6. 



COMPLICATIONS 117 

If correctly drawn the distance from the point of intersec- 
tion of these curves to the base line OX will represent the 
price which free competition tends to establish; the distance 
from this point to the perpendicular line OY, the quantity 
of the commodity that will change hands at that price. Under 
the conditions assumed in this case the competitive price of 
wheat would be $.97^ and the number of bushels that would 
change hands at that price would be 5,500,000. 

§ 67. In some markets prices are determined in exactly the The stock- 
way that has been described. On some stock-exchanges. Exchange, 
for example, brokers are required to communicate their bids 
and offers in writing to an officer of the exchange. At the 
close of the market these bids and offers for each stock are 
examined and the price fixed which will effect the largest 
number of transactions. This one price, irrespective of the 
fact that their own bids or offers may have been much higher 
or much lower, is paid by all brokers who bid that amount or 
more and is received by all sellers who offered stock at that 
or a lower figure. In most markets other methods for fixing 
prices are used, but, nevertheless, the illustration given indi- 
cates with a fair degree of accuracy the forces at work and 
the goal toward which they are directed in any competitive 
market. 

The fact that in such markets buyers and sellers do not Complica- 
ordinarily come together face to face to bargain over terms tions. 
alters the machinery of exchange, but does not alter its essen- 
tial nature. In most branches of trade to-day, particularly 
retail trade, sellers pursue the plan of marking on the goods 
they offer for sale the prices which they propose to ask, leaving 
it to buyers to accept them or reject them as they see fit. 
Buyers, on the other hand, instead of bidding against one 
another to advance prices, exert what pressure they can to 
induce sellers to lower them by going from store to store seek- 
ing the lowest prices. The result is, or tends to be, the estab- 
lishment of that price which will effect the largest number of 
sales in any given period. Sellers wish to make the largest 
possible number of sales at the highest attainable prices. 
Their inclination as individuals is to put up prices. As com- 
petitors they tend to lower them to enlarge the volume of their 



118 VALUES IN EXCHANGE AND PRICES 

sales. When competition is active among a number of sellers 
with varying expenses of production, the price tends to be 
fixed at a point which affords profits to several, just pays the 
expenses of production of others, and drives others out of 
business because it does not cover their expenses of production. 
The part which buyers play in bringing about this result is 
by seeking constantly for the cheapest market. Their com- 
petition is rarely actually excited, but its potential force is 
indicated to sellers by the rapidity with which their goods are 
sold at the prices which they fix. The more attentive buyers 
are to their interest in getting goods at the lowest prices, the 
more likely are sellers to meet price-reductions promptly, so 
that there will be substantially one price for each particular 
good at any one time throughout the whole market. The price 
will be lower than many buj^ers stood willing to pay, it will 
just about suit the ideas of others, while still others will find 
it too high. 
Advantages i^ stating that two-sided competition will tend to establish 
of One-price ^^^^ uniform price instead of a variety of prices for identical 
units of the goods sold, we are simply describing a fact of 
common observation in highly organized markets. Experience 
has taught both buyers and sellers the advantage of agreeing 
upon the one price at which a maximum number of sales may 
be effected, and all the machinery of competition, published 
price lists, clearly marked prices on goods offered for sale, etc., 
is designed to bring this about. Only in communities in a 
backward condition industrially, as in parts of Italy for 
example, do any large number of sellers at retail continue 
to make the determination of the price at which each good 
shall be sold a matter for a special bargain. The time that is 
wasted in useless higgling when this plan is followed is con- 
vincing proof of the superiority of the one-price system. In 
the wholesale trade special bargains between the wholesale 
dealer and his customers are more common and skill in bar- 
gaining is an important requisite to success. The price limits 
within which such bargaining is confined are, however, narrow, 
as the wholesaler is always restrained in individual transac- 
tions from making too great concessions by the fear that he 
may alienate his other customers. 



THE MARGINAL BUYER 119 

§ 68. In some of the illustrations used in the preceding dis- The 
cussion the buyers were at the same time the consumers of Marginal 
the goods they bought. When this is the case the demand -^^y^^- 
price scales that come into play represent the money equiva- 
lents of the marginal utilities of the goods to be purchased 
to the different buyers. The price finally established is the 
money equivalent of the marginal utility of the good to the 
buyer who is just willing to pay that price, whom we may 
conveniently designate as the marginal huyer. Who the mar- 
ginal buyer shall be depends, of course, on the supply price 
scale for the particular good as well as on the demand price 
scale. 

Most goods that are bought and sold are not consumers' 
goods, but producers' goods, and in consequence the demand 
price scales for them are not based directly on calculations 
of marginal utility. As explained in Section 57, however, 
the values of producers' goods, which are nearly always ele- 
ments in a complementary group, are derived from the values 
of the consumers' goods which they help to produce. Wheat 
is valuable because from it bread and numerous other articles 
of food are made. The demand price scales which are factors 
in determining the price of wheat are for the most part the 
demand price scales of dealers whose calculations are based 
on estimates of the prices that millers and others will pay. 
The demand price scales of millers in turn are based on cal- 
culations as to the prices bakers and housewives will pay for 
flour, and as a result of the calculations of housewives, who 
either buy flour to bake bread or buy bread itself from bakers, 
we have demand price scales based directly on estimates of 
marginal utility. Thus at last analysis the demand price 
scales even for producers' goods are based on calculations of 
marginal utility expressed in monetary terms. For conveni- 
ence we may substitute for the phrase marginal utility, mar- 
ginal use, when we are thinking of producers ' goods. Demand 
price scales in the case of producers' goods express the money 
equivalents of the uses which buyers propose to make of the 
goods they purchase. The price finally established in the case 
of producers' goods is, then, the money equivalent of the mar- 
ginal use of the good to the buyer who is just willing to pay 



120 



VALUES IN EXCHANGE AND PRICES 



The 

Marginal 

Seller. 



Market v. 

Normal 

Prices. 



that price. As before, the determination as to which of the 
many potential buyers shall appear as the marginal buyer de- 
pends on the supply price scales, as well as on the demand 
price scales. 

On the supply side we must distinguish sharply between 
goods which are controlled by a monopoly and goods that are 
produced under competitive conditions. Only in connection 
with competitively produced goods do we have different supply 
prices coming into comparison and a resulting supply price 
scale. As already explained, the supply prices of producers 
are determined by their expenses of production. The price 
finally fixed by competition corresponds to the expenses of 
production of the marginal seller, that is, the seller whose 
supply is needed along with the supplies of sellers who pro- 
duce more cheaply, to satisfy the demand of the market. The 
circumstances which determine market prices, that is, the 
prices at which goods are actually sold from day to day, are 
so variable and irregular in their operation that no definite 
rule can be laid down as to the reasons which cause this or 
that seller to be the marginal seller. But, behind most market 
prices are normal prices, which are much less subject to 
changes. This is because the conditions of production are 
more stable than the market conditions under which goods 
are bought and sold, and serve constantly to recall prices 
from the more or less violent fluctuations of the market. For 
the present, normal prices may be defined simply as the prices 
about which market prices tend to fluctuate. In the case of 
freely reproducible goods normal prices correspond to the 
normal expenses of production of representative firms. The 
normal prices of goods produced under conditions of monopoly 
are, on the other hand, the money prices which are calculated, 
in the long run, to afford the largest profit to the producer or 
combination of producers which enjoys the monopoly. In 
both cases the term, " normal," designates the price which 
economic forces tend to establish under the given conditions. 
The justification and practical usefulness of the conception 
will be made to appear in subsequent chapters. 

Before attempting to define more precisely normal prices 
or to analyze the elements that enter into the expenses of 



REFERENCES 121 

production of marginal sellers, we shall find it advantageous 
to study the subject of production itself. For it is only after 
the whole circle of consumption, production and distribution 
has been traversed that all of the elements that enter into 
the determination of exchange values and prices can be under- 
stood. 

REFERENCES FOR COLLATERAL READING 

*8eligman, Principles of Economics, Chaps. XIV.-XVII. ; *Clark, 
Essentials of Economic Theory, Chap. VII.; Bullock, Selected Readings 
in Economics, Chap. XIII.; Fetter, Principles of Economics, Chap. V.; 
Carver, Distribution of Wealth, Chap. I.; *Marshall, Principles of 
Economics, Book V.; *Taussig, Principles of Economics, Chaps. VIII., 
IX. and X. 



CHAPTER VIII 



PRODUCTION: LAND AND NATURAL FORCES 



Nature of 
Production. 



Manufac- 
turing and 
Trading as 
Truly Pro- 
ductive as 
Agricul- 
ture. 



§ 69. Production has already been defined as the creation 
of utilities. That man cannot create matter is a familiar 
truth. All that he can do is to rearrange particles of matter 
so as to create form utilities ; or move goods from one part 
of the world to another so as to create place utilities; or pre- 
serve goods from one period to another so as to create time 
utilities ; or, finally, transfer goods from the ownership of one 
individual to that of another so as to create possession utilities. 
Any activity which contributes to the creation of utilities in 
any of these ways is production. 

A school of French economists of the eighteenth century, 
the Physiocrats, gave currency to the belief that agriculture 
is productive in a special and peculiar sense. They even went 
so far as to characterize manufacturing and mercantile pur- 
suits as sterile, or unproductive. Adam Smith, writing in 
1776, took vigorous exception to this view, but he, too, speaks 
of nature as " laboring along with man " in farming, imply- 
ing that it does not " labor along with " him also in his other 
occupations. Completer knowledge of the real nature of pro- 
duction has emancipated most minds from these misconcep- 
tions. They reappear from time to time, however, in criticisms 
of the activity of merchants, who are said to create nothing, 
but to live, like parasites, by buying things for less and selling 
them for more than they are worth. The obvious reply to 
such attacks is that merchants create time, place and posses- 
sion utilities and that human well-being depends as much upon 
these as upon the form utilities created by farmers and man- 
ufacturers. Convincing proof of the value of the services of 
merchants is furnished to city people when they go to live 
in the country in the summer and have to depend for the 
goods they require upon a distant and ill-stocked country 

133 



FACTORS IN PRODUCTION 123 

store. The growing prevalence among country people of the 
practice of coming to town to do their shopping indicates, on 
the other hand, their appreciation of what the merchant does 
for the community. If there is just ground for complaint, 
it is not because merchants fail to render useful service, but 
because the organization of wholesale and retail trade is less 
economical than it might be. In this department of business 
the disadvantages of unregulated competition are more clearly 
in evidence than, perhaps, in any other. 

§ 70. As already implied, there are two essential factors Factors in 
in all productive processes: nature and man. Nature figures Production: 
in production as an aggregate of materials and blind forces. 
Acting in conformity with invariable laws, she destroys as 
readily as she creates. Moreover, her productive services are 
always gratuitous to him who has the means and the intelli- 
gence to command them. Man, on the contrary, appears as a 
being with conscious purpose. He also destroys— not ruth- 
lessly, however, as nature seems to do, but in order to gratify 
his wants. In production man is the directing,^ active^ agent, 
nature the obedient, passive agency. Man marshals the 
materials and productive forces which nature supplies in the 
ways that experience has taught him to be best, and he alone 
enjoys the fruits of productive enterprise. 

Man and nature are the primary factors in production; Capital a 
secondary or derived from them is capital, the products of Secondary 
past industry used as aids to further production. With the ^° °^* 
abundant evidence on every side of the dominant role which 
power machinery and other forms of capital play in produc- 
tion as now carried on there is little need to enlarge upon the 
significance of this third factor. To capital is chiefly due the 
efficiency of contemporary productive methods, as contrasted 
with those of one hundred and fifty years ago, and also the 
division of the working population into employers and em- 
ployees. These truths are so familiar to every one that it 
is not so much the importance of capital as the fact that it 
is not an independent but a derivative factor in production 
that requires emphasis. 

§ 71. As the term is commonly used in economics, " land " Definition 
designates the surface of the earth and the materials above °^ "Land." 



124 LAND AND NATURAL FORCES 

and beneath it. It thus includes bodies of water and what 
they contain. The principal ways in which land, in this sense, 
assists in production may be enumerated as follows: (1) it 
affords support for man and the buildings, etc., he erects upon 
it; (2) its extension permits the movement of men and goods 
from place to place; (3) its geographical features, mountains, 
valleys, rivers, bays, etc., aid in many ways; (4) it supplies 
the materials, mineral, vegetable and animal, from which all 
commodities are made; (5) each portion of it enjoys its share 
of summer's heat and winter's cold, air, sunshine and rain, 
without which no form of life could long continue on the 
earth. Properly speaking some of these endowments of land, 
such as heat and sunlight, are forces rather than materials. 
The principal other natural forces which aid in production, 
as at present carried on, are the force of gravity, the vital 
forces that cause the growth of plants and animals, the ex- 
pansive force of steam, electrical force and the explosive power 
of gases. 

Progress in Land and natural forces have been available for human 
use for two hundred thousand years or more, but only in 
recent times has man begun to appreciate and utilize them at 
all fully. His early discoveries of fire and its uses, of methods 
of navigating by water, and of the metals, and his first 
domestication of animals and cultivation of plants, followed 
one another at long intervals and were the results, there is 
reason to suppose, of happy accident rather than of deliberate 
study and experiment. Only in the last two centuries has 
systematic progress been made in the task of understanding 
nature and directing her forces toward human ends. The 
results already achieved in analyzing materials into their 
elements and gaging accurately their importance for different 
uses, in generating and controlling steam and electricity and 
in finding new employments for these and other natural forces, 
seem to justify extremely optimistic anticipations in regard 
to the future of the race upon the earth. They have served 
in large measure to shift the attention of economists from the 
problems of production, which seem in process of such happy 
solution, to the problems of distribution, which become more 
rather than less complex as general wealth increases. There 



Production. 



CHARACTERISTICS OF LAND 125 

is the more excuse for this shifting of interest because differ- 
ent phases of production are beginning to be dealt with in 
special treatises. ' ' Economic geography " is a description of 
the part which land and natural forces play in production. 
" Economic geology " treats more especially of rocks and min- 
erals in relation to human well-being. Similarly, treatises on 
agriculture, on mining and on different kinds of manufactur- 
ing, describe the technique of modern production in its differ- 
ent branches. It remains for a treatise on economics merely 
to call attention to the more general aspects of the part that 
nature plays in production. 

§ 72. It is a familiar fact that different areas of land are Different 
unequally fitted to aid production in the ways that have been Character- 
described. Most obvious are differences in geographical ^^ 
features. There is but one New York Harbor on the American pig^gg ^f 
continent, and its superiority in all essential respects to other Land, 
harbors causes every square foot adjacent to it to be eagerly 
utilized in the promotion of a vast commerce. Similarly, there 
is but one source of water power like that supplied by the 
Niagara River and there are no other fresh water courses 
comparable with the Great Lakes and the Mississippi and its 
tributaries. Though less unique other geographical features 
are important and influence in large measure the forms of 
industrial activity that flourish in the regions in which they 
are found. Differences in mineral resources are quite as 
marked. Geological changes, most of which antedated the 
appearance of man upon the earth, deposited beds of iron 
ore in one locality, strata of coal in another, veins of gold 
and silver, copper and lead in still others and in others layers 
of barren rock. The influence which these mineral deposits 
exert on the kinds of industry that are to be carried on in 
different sections and on their prosperity is too familiar to be 
dwelt upon. Differences in soil, climate, rainfall and- the 
other conditions affecting agriculture are equally in evidence 
and play their part in shaping a nation's industries. 

Although most of the characteristics of different pieces of 
land are, economically speaking, unalterable, others admit of 
considerable modification. However admirable a harbor may 
be as fashioned by nature it can nearly always be improved 



126 LAND AND NATURAL FORCES 

by man. Important as were the Great Lakes as a natural 
water course their usefulness has been much increased by the 
construction of the Erie, Welland and Sault Ste. Marie canals. 
Even more marked are the changes which man may make in 
preparing the soil for agricultural use. Besides clearing land 
from forests and from stones and draining off surplus water, 
he can often change comparatively poor to very good soil by 
means of fertilizers. As the English economist, Alfred Mar- 
shall, has suggested, the various qualities that fit a piece of 
land for the cultivation of a particular crop or series of crops 
may be compared to the links of a chain, and as the strength 
of a chain depends upon that of its weakest link, so the fer- 
tility of a piece of land depends upon the quality in respect 
to which it is most deficient. In the same way that the 
strength of a chain may sometimes be increased many fold by 
repairing an imperfect link, so land may often be raised to 
a much higher plane in the scale of fertility, if its one serious 
defect is remedied. 
Old and In new countries where land is abundant and labor and 

capital are scarce and dear, the tendency is to rely mainly on 
the natural qualities of different soils and to make little use 
of fertilizers. As a country becomes more populous and land 
is in greater demand, fertilizers are more freely used and the 
tendency is for each piece of land to be supplied artificially 
with the qualities in which nature has left it deficient. In 
this way continuous cultivation tends to obliterate the differ- 
ences which originally distinguished different soils in the same 
general region and to raise them toward one uniform standard 
of excellence. This makes it difficult, if not impossible, in 
an old country to determine to what extent the fertile proper- 
ties of a given piece of land are due to nature and to what 
extent to man. In the United States it is probably still true 
of agricultural land that it owes the principal characteristics 
that fit it for production to nature. This is even more the 
case, of course, with its mineral and forest lands. 

§ 73. If attention be confined to some particular product, 
such as iron, coal, wheat, corn or wool, and a study be made 
of the conditions under which it is produced in a country like 
the United States, it will be found that some of the supply 



New 

Countries 

Contrasted. 



WHEAT CULTURE 127 

comes from areas where the natural conditions are very favor- Differences 
able to such production, that other portions come from areas inland 
where the natural conditions are less favorable, and still others ^^'^^^ ^^^' 
from areas so situated that the production is barely profit- Expenses of 
able. To illustrate by reference to iron: some of the ore is of Production: 
such richness and is so easily mined that each year's output Mining, 
affords a profit to mine owners and operators so large that in 
a short time it amounts to a princely fortune. Other ore is 
less rich and mined under greater difficulties, but still pays 
a handsome profit over all the expenses of its production. 
Still other ore barely repays the expense entailed in putting 
it on the market. It may be, and often is, the case in mining 
that still other ore is taken out of the ground and sold at an 
actual loss to those engaged in the business, the loss being 
made good for a time out of the capital of such business men 
in the hope that the ore will improve with depth, or that it 
will command a higher price, or that something will occur to 
make the enterprise a success. In addition to this poorest ore 
mined there are known to be vast bodies of ore of even in- 
ferior grades which might be mined and would be mined if 
market conditions were to change so as to make it profitable. 
In iron mining and other branches of mining there are thus 
different producers incurring quite different expenses of pro- 
duction, ranging from those whose expenses are low to those 
whose expenses are barely covered or even not quite covered 
by the price. The more fortunate receive in the current price 
a considerable margin over their expenses of production, which 
is to be explained, economically, as due to the superior natural 
resources which they exploit. 

A similar situation is found in farming and may be illus- Wheat 
trated by reference to the cultivation of wheat. The expense Culture, 
entailed in producing wheat on the bonanza wheat farms of 
the Dakotas, even including the transportation charge to the 
distant market, is very considerably less than the expense of 
producing wheat for the same market in Michigan, owing to 
differences in the favorableness of soil and climate in the two 
sections. Some wheat farmers realize regularly year after 
year a considerable margin above the expenses of production 
in the current price, others realize a smaller margin, others 



128 



LAND AND NATURAL FORCES 



Manufac- 
turing. 



Source of 
Rent. 



barely pay expenses, while, in some years, still others incur 
a loss and have cause to regret that they did not devote their 
land to some other use. In addition to the land used for 
wheat there is still other land that is even poorer for this 
purpose, but that could and would be used to swell the coun- 
try 's wheat crop in case market conditions changed so as to 
make this profitable. In wheat farming and other branches 
of farming there are thus considerable differences in the ex- 
penses of production incurred by different farmers, and since 
all obtain approximately the same prices for the same products 
in the central market, allowing of course for variations in 
quality, these differences cause some to reap large profits, some 
to reap smaller profits, some to just meet their expenses and 
some, perhaps, actually to lose on the year's industry. Here 
again superior natural advantages are the source of the higher 
profits which some realize. 

An exactly similar situation is encountered in branches of 
manufacturing which utilize water power, the supply of which 
is limited. Those who control superior sources of water power 
obtain their power more cheaply than their competitors using 
inferior power. So long as all manufacturers sell their prod- 
ucts for the same market prices, those controlling the superior 
powers must reap an extra profit traceable to this natural 
superiority. 

From these typical illustrations it appears that land and 
natural forces assist different producers for the same market 
unequally. Since they all receive approximately the same 
prices and since these must be high enough to cover the ex- 
penses of production of the men who produce at the greatest 
disadvantage, but whose supplies are necessary to satisfy the 
demand of the market, those producing under more favorable 
conditions must reap a profit due to these conditions. This 
special form of profit, which in the aggregate represents an 
important share of the wealth annually produced, is known 
in economics as rent and will receive further consideration in 
the chapter on that topic. 

§ 74. But, it may be asked, if nature assists production 
so unequally in different localities, why is not the whole 
supply of each particular commodity produced in that one 



LAW OF DIMINISHING RETURNS 129 

spot which is best adapted for the purpose? The answer to 
this question suggests an important economic principle. All 
of the iron ore needed in the United States is not produced 
from the richest iron mine, Because that mine does not contain 
enough ore to satisfy a hundredth part of the demand. All 
of the wheat required is not produced from that one acre best 
suited to wheat culture, because it could not produce a mil- 
lionth part of the wheat needed. Equally inadequate is the 
water power even of Niagara to generate the force needed to 
keep all of the manufacturing machinery in the country in 
motion. 

In practice, as is well known, it does not pay to extract all law of 
the ore from even the richest mine at too rapid a rate, nor to Diminish- 
cultivate too carefully even the best acre of land, nor to ^"^ 
utilize too fully even the finest water power. In each of 
these cases the producers encounter what is known in eco- 
nomics as the law of dhninishing returns. Briefly stated this 
law is that after a certain point has been passed in the cul- 
tivation of an acre of land or the exploitation of a mine, in- 
creased applications of labor and capital yield less than pro- 
portionate returns in product, it being understood, of course, 
that no important change is made in the method of cultivation 
or exploitation. To illustrate by reference to raising corn : 
a given acre of land may be cultivated in numberless different 
ways, each more elaborate than the preceding and each giving 
rise in a normal year to a somewhat larger crop. It may be 
plowed once, twice, three or even four times, and each plow- 
ing will add somewhat to its preparedness to receive the seed. 
It may be harrowed correspondingly. The use of fertilizers 
familiar in the region offers a wide range of possible variation, 
each having some perceptible effect on the year's crop. While 
the crop is maturing it may be cultivated over and over again 
and a great number of different precautions may be taken to 
protect it from the ravages of birds, insects, storms, etc. It 
may be irrigated, or great pains may be taken to drain off 
quickly an excess of rainfall. In these and hundreds of other 
ways labor and capital may be applied without exhausting the 
productive capabilities of the land. Some of these possible 
improvements in the method of cultivation beyond the rough- 



130 LAND AND NATURAL FORCES 

est scratching over of the soil may, and usually will, yield 
more than proportionate returns in the corn crop, but after 
a certain point has been passed all experience confirms the 
law that further improvements afford less than proportionate 
returns. Unless this were true, indeed, there would be little 
occasion for dividing up rural families and sending some of 
the sons to take up new land. Every additional hand on the 
old farm would add his proportion to the joint produce and a 
farm of a hundred acres would support a score of families as 
well as one. 
Applies to To give precision to the statement of the law of diminishing 

X ens ve returns it is customary to distinguish between the ' ' exten- 

or Intensive . ,, -, ^ ,, ■ 

Margins of ^^^^ ^^" *^® intensive margins of cultivation. If, for 

Cultivation, example, the demand for corn increases so as to induce the 
production of a larger crop, the additional supply may come 
from either or both of two sources. Corn growers in the 
settled portions of the country may make their farming more 
intensive, that is, apply more labor and capital to the cultiva- 
tion of each acre and Jji^this-jw^ay^add. to their crops. Others 
may be induced to take up new land and prepare it hastily for 
extensive farming. If both results follow the prospect of a 
somewhat higher price for corn, as they would if farmers were 
always alert to their own interests and able to adapt their 
methods promptly to changing market conditions, there will 
be two situations in which the expenses of producing corn 
are just covered by the price. The corn grown on the poorest 
land hastily plowed and planted, or on the extensive margin 
of cultivation, will barely repay the expenses of production. 
So also will the additional corn raised by the application of 
additional labor and capital at the intensive margin of cultiva- 
tion. The producer at either margin may in such a case be 
properly described as the mjarginaL-^rQd2i^r_whose_e^ 
of production_jTe_juM_covere^d_byiJlie_4).riae_o^^ 
The fact that his additional corn just about pays for itself 
will not, of course, prevent the farmer at the intensive margin 
from realizing a rent from that corn which he continues to 
produce at smaller proportionate expense. 

Law Static. It should be carefully noted that the law of diminishing 
returns is presented as applying not to progressive agricul- 



SOCIAL INFLUENCES 131 

tural industry as a whole, but merely to a particular area of 
land cultivated in accordance with the knowledge available 
at a particular time. It is a static law, helpful in accounting 
for the phenomena of any given period, such as the migra- 
tions of population to new lands, the slow rate at which the 
wealth knowTi to be contained in a particular mine is taken 
out, or the failure to get every possible horsepower out of a 
waterfall, but not a law of progress. Some economists, it is true, 
have believed an analogous law of diminishing returns to hold 
good over long periods of time, of progressive agricultural 
industry as a whole. They admit that in the last one hundred 
and fifty years this law has not applied to progressive coun- 
tries, since invention and discovery have kept well in advance 
of any tendency of population to increase or natural resources 
to become exhausted, but they maintain that these years have 
been highly exceptional. It would be premature to try to 
pass on the truth or falsity of this opinion at this point — we 
shall return to the question in the concluding chapter — but it 
cannot be too strongly emphasized that in advancing it, or 
its opposite, economists present themselves as seers rather than 
as scientists. The ascertained facts of the past afford a basis 
for instructive speculations as to the future, but our knowl- 
edge is still too meager to warrant us in presenting these spec- 
ulations as economic principles or laws. 

§ 75. In the preceding sections the natural differences be- Social 
tween different pieces of land have been discussed as though Influences 
they alone determined the importance of land to man. That ^^°^ 
this is far from being the case is illustrated on every hand. 
Each year sees large tracts of land in the United States en- 
hanced in value simply because of changes in market condi- 
tions or improvements in the means of transporting products 
to the market. To some extent the growth of markets is itself 
determined by natural conditions, but it will be simpler to 
regard it as the result of social changes. In fact natural and 
social influences act and react upon the value of land in such 
a complex way that it is vain to try to separate them. A few 
illustrations will suffice to put in its true light the importance 
of the social factor. 

China and the United States are said by geologists to be 



132 



LAND AND NATURAL FORCES 



Suburban 
and Coun- 
try Acres 
Contrasted. 



about equally endowed with coal and iron resources. Never- 
theless, while the coal and iron mines of the United States 
are worth thousands of millions of dollars, the deposits of 
China are of little value. This is obviously not because China 
is a new or sparsely peopled land. It is entirely because the 
" age of steel " has not yet dawned there, or is only just 
beginning to dawn. Another one hundred years may see the 
coal and iron resources of China as highly valued as are those 
of the United States to-day. Such a change will be due to 
social influences, the natural advantages of the two countries 
having undergone no alteration. 

A similar contrast is presented when agricultural land on 
the outskirts of a city and equally fertile land hundreds of 
miles away from any market are compared. The first point 
to be noted in comparing pieces of land so differently situated 
is the different uses to which the two pieces will be put. The 
back-country acre will be sown with some staple crop, such 
as wheat, corn or cotton, since it alone will repay the expenses 
of transportation to the distant market. To it labor and 
capital will be applied probably only up to the point where 
the tendency to diminishing returns shows itself, because, in 
the given situation, it will pay better to apply additional 
labor and capital to new land than to press cultivation beyond 
this point. The suburban acre, on the other hand, will be 
sown with the most delicate and perishable vegetables in de- 
mand in a city market. Labor and capital in the form of 
fertilizers, etc., will be applied far beyond the point of dimin- 
ishing returns because the quantity of land near the city which 
can be utilized for truck farming is exceedingly limited and 
city prices for green vegetables are so high that very intensive 
cultivation is profitable. From the point of view of profit 
the back-country farmer may be on the very margin of ex- 
tensive cultivation, that is, his expenses, increased largely by 
the freight he must pay to get his crop to market, may just 
about equal the price he receives for his crop. The suburban 
farmer, the native fertility of whose land was assumed to be 
the same, is sure to reap a high rent from his business. The 
final " doses " of labor and capital he applies to his land may 
be just paid for in the price he gets for the additional produce 



CITY REAL ESTATE 133 

that results from them. It is to his interest to continue his 
cultivation so long as it is remunerative. But all earlier ap- 
plications of labor and capital will be more than covered by 
the price received for what they added to the product. As 
a whole his acre will show at the end of the year a high rent 
over expenses, ascribable to its nearness to the market or to 
social rather than to natural conditions. 

A still more striking contrast is presented by a comparison High Value 
of city real estate, priced by the square foot, with agricultural °^ ^^*y ^®^ 
land, priced by the acre. Next to man's need for food and 
clothing comes his need for shelter or for a house. Food and 
clothing may be produced at great distances and brought to 
him from day to day in the small quantities that he requires. 
A house must be available in its entirety all the time, and 
it must not be so far away from his place of business as to 
make his daily trips back and forth unduly irksome. This 
accounts for the fact that when land begins to be thought of 
for building purposes its importance is at once greatly en- 
hanced in human estimation. The more concentrated the 
activities of a city and the larger its population, the greater 
will be the demand for each piece of land favorably situated 
for building. Thus as a place changes from a country four- 
corners to a village, then to a town and then to a city, the 
values of building sites within its limits tend to rise, although 
with many fluctuations as regards particular quarters, and the 
rents which their utilization affords to increase correspond- 
ingly. The invention of the bicycle, the trolley-car and other 
conveniences for passing quickly and easily from one's place 
of business to one's house may check this tendency somewhat, 
and, if these improvements follow one another rapidly, may 
check it entirely or set up a counter tendency, but during the 
last quarter of a century the increase in the value of city real 
estate and of the rents that such property affords have been 
phenomena common to all civilized countries. How far this 
may go in particular instances is illustrated by the fact that 
a lot sold in the heart of London recently for a price which • 
would make an acre of unimproved land in that locality worth 
$3,000,000. In the Wall Street section of New York City land 
has been sold for as much as $800 a square foot ($3,712,000 an 



134 



LAND AND NATURAL FORCES 



Value of 
Land Often 
Due to 
Human 
Fore- 
thought. 



Definition 
of Rent. 



acre). In these cases also the increased value and correspond- 
ingly enlarged annual return are ascribable to social influences. 

Generalizing on these illustrations, we may conclude that 
differences in situation in respect to markets and other social 
conditions are quite as influential as natural differences in 
determining the importance of different pieces of land and 
the rents they afford. When these social conditions are created 
by the forethought, enterprise and labor of some particular 
individual or group of individuals, as when, for example, a 
suburb is deliberately planned and brought into being by a 
syndicate of real-estate operators, we have a case similar to 
that presented by the modification of the character of agri- 
cultural land by drainage or fertilization, in which it is very 
difficult to distinguish man 's purposive share in the result from 
the share of an unconsciously evolving community. These 
difficulties receive fuller consideration in the chapters on Dis- 
tribution. 

In discussing rents it has been assumed that the man who 
uses the land is also the land owner. In European countries 
and to an increasing extent in the United States this is not 
the case. Land ownership is coming to be more and more 
divorced from land utilization and as a result the extra profit 
ascribable to the superiority of particular pieces of land is 
clearly distinguishable from other forms of profit going to the 
cultivator or occupier. It must be paid as " rent " to the 
land owner, or the latter will prefer to cultivate or occupy 
the land capable of affording such profit himself. In future 
this share of wealth will always be referred to as " rent " to 
distinguish it from other shares to which the designation 
' ' profit ' ' more properly belongs. 



REFERENCES FOR COLLATERAL READING 

*Seligman, Principles of Economics, Chap. XX.; *Bullock, Selected 
Readings in Economics, Chaps. I. and IV.; * Marshall, Principles of 
Economics, Book IV., Chaps. I., II. and III. ; Walker, Political Economy, 
Part II., Chap. I., and * Land and Its Rent; Nicholson, Principles of 
Political Economy, Vol. I., Book I., Chaps. II. and IV. 



CHAPTER IX 
PRODUCTION: LABOR AND CAPITAL 

§ 76. The chief factor in production is man, the active Man as 
director of all enterprises. His contribution depends partly ^''^oducer. 
upon his capacity as an individual and partly upon the way 
in which his efforts are applied, that is, whether to direct or 
to capitalistic processes of production, or whether indepen- 
dently or in cooperation with the organized efforts of others. 
Each one of these circumstances merits separate consideration. 

The principal qualities which determine an individual's Qualities 
capacity as a producer are the following: (1) health, (2) phys- Influencing 
ical strength and endurance, (3) intelligence, (4) judgment, ^^ . 
(5) ambition, (6) energy, (7) perseverance, (8) imagination, 
(9) mechanical ingenuity and (10) technical knowledge. The 
importance of health and physical strength, especially to those 
doing manual work, is obvious. Intelligence and judgment are 
important adjuncts to the man with pick and shovel; they 
are indispensable to men in the higher grades of industry. 
Ambition, energy and perseverance are qualities that charac- 
terize all the world's greatest men, and without which other 
qualities are of little value. Imagination is important because 
to it are traceable all great inventions and discoveries. Me- 
chanical ingenuity, though less important to the mass of men 
than formerly, when fewer tasks were performed by auto- 
matic machinery, is still a valuable quality. Technical knowl- 
edge, on the other hand, gains each year in importance as the 
ways of doing things that are found to be most efficient in- 
crease in complexity. It is evident that the importance of 
these different qualities depends upon the kind of work to be 
done and that industrial progress tends to lessen the im- 
portance of some while it increases that of others. 

§ 77. The above qualities, like other human characteristics, 
are either inherited or acquired. Whatever their origin in 

135 



136 



LABOR AND CAPITAL 



Conditions 
Favorable 
to Health 
and 
Strength. 



special cases the same general conditions, acting either on 
successive generations or on living men, account for their 
presence. A few words will serve to suggest what these con- 
ditions are. 

The circumstances influencing health and strength are well 
understood. Fresh air and exercise, good food, adequate pro- 
tection from dampness and sudden changes in temperature 
and the avoidance of all kinds of excesses, are the principal 
requisites. Of these good food is perhaps the most important. 
The human body resembles a machine, and the amount of 
work it can do depends very largely on the quality and quan- 
tity of the fuel, that is, the food, with which it is supplied. 
Up to the time of the industrial revolution Germanic peoples 
enjoyed many of the above conditions and the physique of the 
race was consequently well developed. The introduction of 
machinery has served to concentrate the populations of ad- 
vanced countries to an ever-increasing extent in cities and to 
substitute for open-air work, work indoors in shops and fac- 
tories. There has been reason to fear that this might per- 
manently impair the health and vigor of those very peoples 
which have led in the race for industrial ascendency, not only 
because of its direct effect, but also because the monotony of 
such labor fosters dissipation. To counteract these evil ten- 
dencies vigorous measures have been resorted to, notably in 
England and Germany, where sanitation and factory acts have 
been passed by the government and where coffee-houses, work- 
ingmen's clubs, etc., as substitutes for the saloon, have been 
created through the efforts of private individuals. A great 
deal of attention is being given, especially in those countries 
which maintain large standing armies, to the question of de- 
termining what diets are best for people doing different kinds 
of work, and model kitchens are being organized in the poorer 
quarters of cities to teach people to appreciate nutritious and 
properly prepared foods. Efforts to improve the tenement 
houses in which the populations of the larger cities live are 
also being put forth and with some success. Mention should 
also be made of the public baths, the playgrounds for chil- 
dren and the open-air gymnasiums which are being erected in 
those cities in Europe and America which are most progres- 



INTELLIGENCE AND JUDGMENT 137 

sive in caring for their inhabitants. Finally, it would be 
difficult to exaggerate the importance of the efforts that are 
just now being made to stamp out that most devastating 
disease from which the human race has suffered, consumption. 
As is shown by mortality statistics, these efforts are beginning 
to bear fruit in the improved health of present-day city popu- 
lations, but much yet remains to be done for both city and 
country people. There is no form of philanthropic activity 
which is more certain to benefit mankind than that designed 
to improve the conditions under which the mass of men live 
and work. Restored health and vigor are blessings in them- 
selves, but equally important is the fact that they make for 
more efficient production and enable their possessors not only 
to hold what they have gained, but to add steadily to their 
advantages through their increased earning power. Every 
improvement that can be made in home and factory surround- 
ings without undermining the independence and self-respect 
of the population is thus a certain means of " helping people 
to help themselves." 

The development of intelligence and judgment depends Intelligence 
largely upon education, and here too undoubted progress has ^^^ 
been made. In place of the formal and traditional methods ■^"<*&"i6"*- 
that have prevailed in the schools, methods having direct ref- 
erence to the organic development of children are beginning 
to be introduced. Moreover, the proportion of children who 
go to school is on the increase, and the expenditures that mod- 
ern states make for public education are growing. Neverthe- 
less there is still much to criticise in current educational prac- 
tices and in the short-sightedness of democratic states in not 
contributing even more liberally to the support of education. 
In it lies the hope of the future, since through its agency the 
standards of each generation of children are elevated. These 
higher standards may be passed on to the next generation of 
children to be raised still further in the schools, and so the 
process may be repeated with steady progress as its necessary 
consequence. If improving educational advantages are added 
to steadily improving home surroundings, the advance of the 
race cannot fail to be rapid. 

Ambition, energy and perseverance depend partly upon a 



138 



LABOR AND CAPITAL 



Ambition, 
Energy and 
Persever- 
ance. 



Imagina- 
tion, 

Mechanical 
Ingenuity 
and 

Technical 
Knowledge. 



people 's range of wants in comparison with the means to their 
gratification, and partly on the probability which the situation 
presents that effort and enterprise will be crowned with suc- 
cess. These qualities are conspicuously lacking among a people 
which has developed few wants and whose means of livelihood 
are so limited by natural and social conditions that even the 
greatest efforts cannot result in a large command over eco- 
nomic goods. They are as conspicuously present among a 
people with numerous and varied wants to which are open 
a great variety of promising ways of acquiring wealth. This 
contrast is well illustrated by the differences between the 
peasantry of Europe and the plain people of America. Pov- 
erty of resources and the restrictions of a class organization 
of society tend to stifle the ambitions of the former as markedly 
as wealth of resources and absence of rigid class barriers tend 
to stimulate those of the latter. The most desirable situation 
for the fostering of these qualities is evidently one in which 
different scales of living prevail side by side and in which 
at the same time equality of opportunity is preserved. The 
danger in a country like the United States is that an aris- 
tocracy of wealth may grow up to monopolize the easiest 
means of acquiring further wealth and to hold the mass of 
the people down to working for mere wages. Under such cir- 
cumstances different scales of living would foster not ambition 
but merely a sense of injustice and oppression in the minds 
of those who have little prospect of improving their condition. 
This danger must be kept in view in connection with the ques- 
tion of limitations that it may be desirable to impose upon 
monopolies and the rights of property. 

The conditions favorable to the growth of imagination, 
mechanical ingenuity and technical knowledge call for no 
extended discussion. Imagination is still little understood. 
It seems to be fostered by variety of surroundings and ex- 
periences, and by attention to unsolved problems which con- 
tain an element of mystery. Perhaps the most that is to 
be hoped for from present educational methods is that they 
will permit some part of the imagination which seems to 
be natural to childhood and youth to be carried on into 
manhood. Manual training, to which more and more atten- 



TENDENCY OF EVOLUTION 139 

tion is being given in the United States and abroad, is, of 
course, directly productive of mechanical ingenuity. The 
greatest progress made in connection with any of the enumer- 
ated qualities is to be found in the field of technical Imowl- 
edge. Technical schools, technical courses in colleges and 
universities, technical correspondence and evening classes and 
technical journals unite to bring the knowledge necessary to 
efficient production within the reach of all. In addition to 
these admirable facilities for disseminating knowledge already 
acquired, more and more attention is being devoted to the 
acquisition of new knowledge. Every state in the United 
States has at least one privately or publicly endowed univer- 
sity intended to encourage scientific research. To supplement 
these are the national institutions dedicated exclusively to 
research work, the Smithsonian and the recently founded Car- 
negie Institution. Moreover, many individuals are devoting 
their lives and their fortunes to experiments directed toward 
discovering improved methods of gratifying human wants. 
Taking all of these things into account we may predict with 
confidence continued progress in the technique of production. 

Cooperating with the conditions favorable to the develop- Tendency of 
ment of individual capacity that have been enumerated are Evolution, 
the silent forces of evolution. Although interfered with by 
the growth of benevolent instincts and agencies which inter- 
vene to preserve many of the unfit from destruction, these 
forces aid powerfully in the process by which each people 
surrounded by a favorable environment becomes fitted to make 
fullest use of that environment. Weak and incapable lines 
of heredity are cut off in each generation and the field is left 
to the stronger and more capable. In prosperous communities 
the weeding-out process affects not merely the underdeveloped 
and underfed, but the overdeveloped and overfed. Dissipation 
is as common a cause of premature death and failure to con- 
tinue the line of heredity as starvation. Evolution thus 
operates not only to enable each succeeding generation to 
get a larger return for its efforts, but to educate it to a wiser 
use of its material advantages. The surviving type of suc- 
cessful man is less and less self-indulgent and more and more 
philanthropic in his instincts and habits as generation follows 



140 LABOR AND CAPITAL 

generation. From this it results that progress itself causes 
more and more attention to be devoted to the conditions 
leading to progress and hence tends to be a cumulative 
process. 
Capitalistic § 78. Given a certain standard of individual capacity on 
Pro uction. ^^^q part of a population, its productiveness depends next 
upon the extent to which its methods are capitalistic. By 
capitalistic production is meant production which attains its 
ends, not by the direct and immediate creation of consumable 
goods, but indirectly through the creation first of tools, 
machines and other material aids to production and the cre- 
ation subsequently, with the help of these capital goods, of 
the consumable goods desired. Capitalistic production is thus 
roundabout instead of direct, and involves a longer interval 
of time between its inception and its completion. It can be 
adopted only by men who are willing to forego immediate 
gratifications and to permit their incomes to assume the in- 
termediate form of capital goods so that in the end a larger 
output of consumable goods may result. Such conduct in- 
volves abstinence from present consumption, saving income or 
productive powers instead of using them to minister to imme- 
diate consumption and ivaiting until the longer productive 
process shall be completed. " Abstinence," as the term is 
here employed, denotes simply not doing something that ordi- 
narily it would be pleasant to do. It need not necessarily 
involve any element of pain or sacrifice, because the purpose 
accomplished through it may be even pleasanter than the 
things abstained from. Usually, however, abstaining from 
present consumption does involve some sacrifice for the psycho- 
logical reason already explained (Section 40). 
Its The superiority of capitalistic over direct production and 

Advantages, the reasons for it will appear clearly from a simple illus- 
tration. One of the most urgent needs of a pioneer in a new 
country is for fresh water. Having found a spring he may 
gratify this need by scooping up the water with his hands. 
This will be direct production. Or he may make a cup in 
which he can dip up, by stooping once, all of the water he 
can drink. Such a cup will be a capital good and the process 
will be capitalistic production. It will multiply largely the 



CAPITAL GOODS AND CAPITAL 141 

return resulting from the effort of stooping. Or he may 
fashion a larger vessel in addition to his cup with which he 
can dip up at one time all of the water he requires for a 
whole day. This will be more highly capitalistic production. 
Or, finally, if the spring happens to be at a higher level than 
his cabin, he may construct a trough of hollowed logs capable 
of conducting the water from its source to his very door. 
This will be much more highly capitalistic production than 
either of the other processes, and its return will be corre- 
spondingly larger. The force of gravity will now relieve 
him entirely of the task of carrying the water, and all that 
he will need to do to secure an abundant supply will be to 
keep the spring clean and his trough in repair. 

This illustration is typical of the advantages of capitalistic 
production. It enables man to apply his own efforts more 
effectively, as when he uses tools or implements, or to com- 
mand the assistance of natural forces which without the aid 
of capital goods would be beyond his control. The forces of 
gravity, steam, explosive gases and electricity can be utilized 
effectively only in connection with the forms of capital appro- 
priate to them. For these reasons a given expenditure of 
effort in capitalistic production is usually more fruitful of 
results than the same expenditure in direct production, and, 
the more highly capitalistic or prolonged the process, the 
larger, generally, the return in consumable goods for each 
unit of effort expended. 

§ 79. Business men are in the habit of speaking not of Capital 
" capital goods," but of " capital." By this they mean some- Goods and 
times capital goods themselves, but more often these goods 
measured in terms of money. Capital goods wear out and 
need to be replaced. Individually they come into being, are 
used and are then discarded. But capital, as the business man 
thinks of it, is more permanent. It is the complex of capital 
goods, used in connection with each branch of production, 
measured in terms of money. To the extent that prices are 
stable and that the efficiency of production is maintained, the 
money equivalent of this complex of capital goods changes 
little if at all. Each year's inventory shows about the same 
aggregate, although each year the particular capital goods 



142 LABOR AND CAPITAL 

embraced in the inventory may be different from those of 
the year before. 
Fixed and In comparing different methods of capitalistic production 
Circulating t^Q factors must be considered : the average amount of capital 
api a required for each process and the average time that elapses 

in each case before this capital is completely used up or con- 
verted into consumable goods. For example, compare two 
branches of manufacturing in one of which the entire equip- 
ment of capital goods has to be renewed on an average once 
a year, while in the other the equipment requires renewal 
only once every two years. If each factory requires exactly 
the same amount of capital from day to day the first will 
require for continuous production twice as large a replace- 
ment fund as the second because its capital goods wear out 
twice as fast. Economists give precision to the contrast in- 
dicated in this illustration by distinguishing between fixed 
and circulating capital goods. Fixed goods are those which 
endure for some little time without replacement. Circulating 
goods are those, like coal, which are destroyed in a single use. 
It is obvious that these are relative terms and that capital 
goods present all possible gradations of fixity. 
Mobility of Capital goods differ also in the extent to which they are 
Capital specialized or free, or in their mobility. Raw materials such 
°° ^' as coal, iron, etc., are as a rule very mobile. They may be 

devoted at will to any one of a dozen different productive 
uses. On the other hand, machines, buildings, etc., are spe- 
cialized and either cannot be diverted to any other use than 
that for which they were originally designed or not without a 
great loss in value. Permanent improvements in land are of 
course quite immobile and an unwise creation of this type of 
capital goods may result in complete loss without possibility 
of recovery. 
Money. Some writers have asserted that of all forms of capital, 

money is the most mobile, having in mind the ease with which 
it may be exchanged for other goods. This important quality 
is not mobility, but exchangeability. From the point of view 
of mobility, money is a highly specialized capital good. This 
is particularly true of paper money, which becomes practically 
valueless when deprived of its monetary quality. 



LAW OF DIMINISHING RETURNS 143 

With the extension of capitalistic methods of production Fixed and 
the proportion of fixed and specialized capital goods shows a Specialized 
tendency to increase. This results in lessened mobility for Capital 
capital goods as a whole and is one of the causes of the pro- ^-°---^- 
longed periods of depression which nearly always follow busi- 
ness crises under present conditions. 

§ 80. The law of diminishing returns has already been l-abor Also 
explained in connection with the discussion of the part which Subject to 
land and natural forces play in production (Section 74). A -j. . . , 
similar law applies to the other factors in production, labor j^g 
and capital. To understand the operation of this law, let us Returns, 
consider the situation of colonists in a new country where 
land of the best quality is superabundant, but both labor and 
capital are scarce. Under these circumstances land will be 
practically free to any one who will cultivate it. The colonists 
will first supply themselves with those forms of capital that 
are most urgently required — buildings and agricultural tools 
and implements of different sorts, boats, nets, guns, etc. For 
a time new implements of these various kinds will be so im- 
portant as aids to further production that no law of diminish- 
ing returns will manifest itself. If the working population 
remains stationary, however, and continues to add to its 
equipment of capital goods, without altering in any important 
respect its methods of production, after a certain point has 
been passed additional capital goods will add less than pro- 
portionate returns to the combined products of land, labor 
and capital. This is merely another way of saying that after 
each worker has a fairly complete equipment of tools and im- 
plements, duplicate tools of some sorts and more refined im- 
plements of others will add to the product less in proportion 
to their cost than did the tools and implements first acquired. 
If tools and implements continued to be added to the equip- 
ment of our assumed colony and there was still no important 
change i^i methods of production, a point would obviously be 
reached at length where every worker would have every aid 
to efficient production which he could possibly use and addi- 
tional capital goods would render no service whatever to pro- 
duction. In actual life the law of diminishing returns is 
never likely to be pressed to this extreme limit, because in 



144 



LABOR AND CAPITAL 



Also 
Capital. 



Law of Di- 
minishing 
Returns 
Generalized. 



practice the supply of capital will probably never be increased 
to the point at which every worker has all the capital goods 
that can be utilized in connection with his labor and because 
increasing capital itself brings about the changes in methods 
of production, such as the substitution of power machines for 
hand tools, that are assumed to be absent. The fixed force 
of workers in the assumed industrial colony is analogous to a 
limited supply of land. In each case the addition of successive 
increments of capital adds to the size of the product, but, after 
a certain point has been passed, the addition is only at a 
diminishing rate. The invention of new and more efficient 
forms of capital goods may and in practice constantly does 
postpone the period when the law of diminishing returns will 
begin to operate as regards either land or labor, but this in 
no wise lessens its importance as one of the far-reaching ten- 
dencies of which economics must take account. 

That the same law applies to capital becomes evident when 
it is considered what would result if its supply were fixed 
while successive additions were being made to the working 
population. With every increase in the number of workmen, 
it would be necessary to utilize the available tools, machines, 
etc., more intensively. For a time this might be done without 
any tendency toward diminishing returns, but this could not be 
the case indefinitely. Sooner or later, as bare-handed workmen 
continued to be added, the fixed fund of capital would show 
diminishing returns just as did the fixed labor force when the 
conditions were reversed. 

Diminishing returns must after a time result from either 
situation because of the general principle that the most effec- 
tive cooperation between labor and capital is only realized 
when they stand in the right quantitative relation to each 
other. If after this relation has been established capital goods 
increase while the number of workmen remains fixed, or work- 
men increase while capital goods remain unchanged, the co- 
operation between them must be rendered less effective. If 
both factors increase together there will be no occasion for any 
reduction in the return so long as new land equal in quality 
to the old is available. It is therefore not the increase in 
the expanding factor alone that causes the diminution, but 



METHODS OF ACQUIRING CAPITAL 145 

that increase coupled with the lack of response on the part of 
the other factor. 

§ 81. The only method by which an isolated producer can Methods of 
acquire new capital is by applying his own efforts to its crea- Acquiring 
tion. He must produce it as well as save it. In industrial ^^P^*^^- 
society the production of capital goods is effected like the pro- 
duction of consumable goods usually through the agency of 
business managers who produce for the market. The '* sav- 
ing " which causes production to take this direction is per- 
formed by a different set of people conveniently designated as 
capitalists. A few illustrations will serve to show how the 
savings of capitalists serve to bring capital goods into ex- 
istence. 

(1) A farmer who wishes to enlarge his barn saves part Saving and 
of the money he receives for his crop and uses it to buy lumber Investing, 
and to hire masons and carpenters to make the desired im- 
provement. In this case by buying lumber he encourages the 
production of more lumber, or virtually hires lumbermen, 
sawmill hands, etc., to produce this kind of capital good, just 

as he subsequently hires men to convert it into a new wing 
to his barn. He turns over to others his command over so- 
ciety's wealth, which they use to gratify their wants. In re- 
turn he receives the addition to his barn, a new capital good 
added to society's productive equipment. 

(2) Very often the farmer who wants a larger barn is un- Borrowing 
willing or unable to save enough to pay for it himself. If and 

he is a man of enterprise he is not likely to be deterred by this Investing, 
circumstance from taking steps to obtain it. Having a valu- 
able farm to pledge as security, he is in a favorable position 
to borrow. He may apply to a well-to-do neighbor who has 
saved the money needed out of his income and is looking for 
a chance to invest it. In this case the neighbor does the sav- 
ing and thereby makes possible the building of the addition; 
the farmer decides how the saved income shall be invested in 
a concrete form of capital, taking all the risk of the venture 
and insuring the lender against loss by pledging, or mortgag- 
ing, his farm. The actual creation of the addition results as 
before from the labor of woodchoppers, mill hands and car- 
penters, who are paid for their services as they render them. 



146 LABOR AND CAPITAL 

Borrowing (3) Instead of applying to a neighbor the modern farmer 
Banks, ^^^iq wishes to borrow money is more likely to apply to a bank, 
an institution which receives on deposit individual savings and 
lends them, together with its own capital and credit, to cus- 
tomers. In this third and most typical case, the saving of in- 
come is performed by the depositors of the bank, who know 
nothing about the ultimate disposition of their savings. The 
lending is performed by trained men who give much of their 
time and thought to this business, the bank officers, and the 
investing or conversion of the purchasing power into capital 
goods is done as before by the farmer. 

Borrowing In these ways and in others too similar to require separate 
Always description the accumulation of capital goods results from 

Investment ^^"^^^S- -^^t all saving, however, leads to an increase of cap- 
ital. The deposits in a bank may be loaned to some one who 
wishes to spend them for consumable goods. In such a case, 
what depositors abstain from spending, borrowers spend, and 
the community's stock of capital remains as it was before. 
In order to cause an increase in capital, saving must be sup- 
plemented by investing, unless, indeed, it takes the form of 
hoarding, which is unusual in modern communities. 

Saving and § 82. It is important to see clearly the essential role which 

waiting saving and waiting play in the accumulation of capital because 

Ncccss3,rv 

to Existence '^^^^ current criticism results from the fact that this is en- 

of Capital, tirely overlooked. Many socialists, for example, maintain that 
since capital goods are, like other goods, the products of 
human industry and since no one can justly claim credit 
for the part which land and natural forces play in produc- 
tion, all products should by rights go to the workers. In 
asserting that capital goods are produced like other goods they 
are, of course, entirely right. What they ignore is the fact 
that the workers who help to produce capital goods desire 
immediate means of gratification and must be paid their wages 
long before the capital goods which they help to produce have 
begun to bring in any return. These wages and the consum- 
able goods for which they are expended must thus come out 
of the savings of some other group in the community, which 
must wait for its recompense until the products arising from 
the use of the capital goods become available. The contrast 



ECONOMIC CAUSE OF INTEREST 147 

is shown very well in the above illustrations. In the first, 
the farmer has himself accumulated the fund of wealth neces- 
sary to make the addition to his barn. To do so he has had 
deliberately to abstain from spending his income on immedi- 
ate enjoyments. Some farmers are doubtless so ambitious 
and provident that this entails no sacrifice, but for the average 
farmer it certainly does. If the farmer has failed to accumu- 
late the needed fund of wealth himself, he may yet secure 
the addition by borrowing from a neighbor or a bank. This 
merely transfers the necessity of saving to other men in the 
community. If the bank in question happened to be a savings 
bank bringing together the savings of wage-earners, there 
would be little room for question that the saving, which is 
absolutely necessary to the production of the new capital 
goods, had entailed sacrifice. 

But whether saving, in any particular instance, involves Economic 

sacrifice or not it is clear that capital goods can only be ^^^^e of 

IntGrcst 
brought into existence on condition that some one— or organ- 
ized society itself — abstains from immediate consumption and 
waits until the products of capitalistic production become 
available. Interest is the reward for waiting, and until some 
other method of securing capital goods has been devised its 
payment out of the greatly multiplied products of capitalistic 
industry is as legitimate as the payment of wages, the re- 
ward for working. In neither case is the economic reason 
for the payment the sacrifice or effort of the recipient. It is 
rather the valuable contribution made to production, out of 
which contribution, at last analysis, the payment comes. 

In the above illustrations ' ' money " or " income ' ' is spoken Capital 
of as the thing " saved." Money is, of course, merely the Croodsthe 

medium by means of which control over one kind of wealth „ ^^f^ 

. Saved. 

which the individual does not want is exchanged for control 
over another kind which he does want. What is really saved 
in every case is the capital goods themselves which are brought 
into existence directly or indirectly by the investment. Thus , 
in the examples given the addition to the barn is saved and 
added to society's capital equipment. 

Often investment is thought of, especially in cities, as buy- 
ing real estate, or stocks or bonds. Such purchases are invest- 



148 



LABOR AND CAPITAL 



Buying 
Stocks and 
Bonds Does 
Not Add to 
Capital. 



Kinds of 

Capital 

Goods. 



Land and 
Capital. 



ments from the point of view of the individual, but to the 
community as a whole they represent simply transfers of 
ownership over capital goods already in existence. The in- 
vestment proper appears when the purchasing power ex- 
changed for stocks or bonds is used for the development of 
some new or for the better equipment of some old enterprise. 
Just as money deposited in a bank may fail to lead to any 
net addition to capital, so money invested in stocks or bonds 
may finally be spent by the previous owners of these securities 
for consumable goods and leave no trace behind. 

§ 83. Capital goods have been defined as products of past 
industry used in the present, as means, not to the direct grati- 
fication of wants (consumption goods), but to further produc- 
tion. They include all the intermediate products which figure 
in roundabout or capitalistic production. The principal varie- 
ties of capital goods are : 

(1) Permanent improvements in the physical environment, 
in the form of drainage systems, canal excavations, tunnels, 
roadbeds, etc. 

(2) Buildings of all kinds except those serving no indus- 
trial purpose. 

(3) The rolling stock of railways, vehicles of all kinds, etc., 
not used merely for pleasure. 

(4) Tools and machinery. 

(5) Farm and draft animals. 

(6) Seed, raw materials and partially finished goods in 
process of production. 

(7) Finished goods in the hands of dealers. 

(8) Money. 

In connection with ' ' permanent improvements ' ' a difficulty 
is encountered that has caused no little confusion. Land as 
a gift of nature is not regarded as a capital good. But per- 
manent improvements in land become for practical purposes 
portions of the land itself. Thus in old countries most land 
is partly a gift of nature and partly a capital good and it 
is often impossible to distinguish between the two. A simple 
way out of this difficulty is to describe land also as a capital 
good, and this is done by the business community and by some 
economists. To the writer simplicity so secured seems bought 



KINDS OF CAPITAL GOODS 149 

at too high a price, since it involves a disregard of the distinc- 
tion, believed to be fundamental, between man's part in pro- 
duction and nature's part. A better plan seems to be to 
accept the difficulty as inevitable and to recognize that in 
distinguishing between what is and what is not capital, econ- 
omists have the same sort of task as confronts biologists in 
distinguishing between what is animal and what is vegetable. 
As regards most things classification in both instances is easy. 

Along the same line is the temptation to include as capital Personal 
goods, skill and training that have been acquired as the result ^^lalities 
of '' investments in education." From one point of view ° Capital, 
such acquired aptitudes for production should be included. 
Their origin, so far as motives are concerned, is similar to 
that of other capital goods. Moreover, like other capital goods 
they are aids to further production. Yet economists gener- 
ally decide against such inclusion because they deem it im- 
portant to distinguish sharply between man and the material 
aids he uses in production. On the whole it seems best to 
adhere, in the present treatise, to this plan of classification. 

Objection is sometimes made to the inclusion of " finished Reasons for 
goods in the hands of dealers " in the list of capital goods, describing 
But this follows logically from the principle (which has al- g^opj^sas 
ready been defended) that trade is a branch of production, capital. 
An important requisite to the efficiency of production is a reg- 
ular and continuous ministering to the wants of consumers. 
Most economic goods must be forthcoming regularly from day 
to day or at particular periods in order to possess high utility. 
To secure this result the business organization of society must 
provide, first, for the carrying over of stocks of goods, such 
as agricultural products that mature only periodically but 
that are needed continuously, and, second, for the carrying of 
sufficient supplies of goods that mature continuously, to insure 
a continuous stream of commodities from producers to con- 
sumers, no matter how far they may be removed from one 
another. Thus wheat production is efficient in proportion to 
the care with which the crop harvested during the summer 
months is handled so as to meet the community's need for 
bread during the entire year. All of the conveniences, such 
as elevators, warehouses, etc., which contribute to this end, 



150 LABOR AND CAPITAL 

as well as the stored wheat itself, are capital goods. In the 
same way if it takes, on the average, thirty days to transport 
bananas from the growers in Central America to consumers 
in American cities it is indispensable to the efficient produc- 
tion of this fruit that a stock equal at least to thirty days' 
consumption be kept regularly in transit either in the ware- 
houses of shippers, on the ocean, in the warehouses of whole- 
sale dealers or ripening in the shops of retail vendors. Such 
a stock is a part of the community's capital goods. 
Money. The last kind of capital good enumerated, " money," is 

too important to be dismissed with a few words and is there- 
fore treated in separate chapters (Chapters XIX.-XXI.). 
Progress in § 84_ The development of capitalistic production to any- 
Lapi a IS 10 ijjjjjg ijjjg jl^g present proportions is of comparatively recent 
Middle date. During the Middle Ages the capital goods used were 
Ages. so few and crude that each producer supplied himself with 

his needed equipment without great difficulty. Instead of 
commanding interest the accumulated wealth of the rich had 
often to be stored and a fee paid for its safe-keeping. 
Growth of As commerce developed there was an increasing demand 
Commerce. ^^^ capital in the form of vessels and goods with which to 
stock them, and merchants, like Antonio in The Merchant of 
Venice, were often able to turn their accumulations to very 
profitable account. The use of tools and machinery in agri- 
culture and manufacturing made little advance, however, be- 
fore the period of the industrial revolution. During all these 
centuries the chief service of saving with a view to the future 
was in connection with the preservation of flocks and herds 
and the husbanding of the food supply and seed from one 
harvest to the next and from years of abundance to the lean 
years that were sure sooner or later to follow. 
Influence of Since the beginning of the last century capitalistic produc- 
Industrial ^j^^^ j^^^ advanced in the Western World by leaps and bounds. 
' In place of simple hand tools and foot- and horse-power 
machines, complex machines driven by water, steam, electrical 
or gas power have come into use. These have been multiplied 
so rapidly that the average capital equipment of the modern 
producer is easily a hundredfold larger than that of the 
medieval workman. Enormous investments have been made 



CONCLUSIONS 151 

also in improved transportation facilities and in buildings for 
the safe housing of machinery, operatives and goods. As a 
result of this progress in capitalistic production and of the 
parallel discovery and invention of new and more efficient 
kinds of capital goods, the productiveness of human industry 
has been immensely increased. A large part of this increased 
return goes as interest to those who allow their wealth to 
remain in the form of capital in preference to converting it 
into consumable goods for the gratification of their immediate 
wants. The part that remains as the wages of labor has also 
grown, however, so all classes have derived material benefit 
from the change. 

Since capitalistic processes add so largely to the productive- Conclusion. 
ness of industry, the development of thrift, or a willingness to 
forego present gratifications for the sake of the future, is an 
important condition to progress. What is most needed is not 
a general development of thrift, for many individuals are 
already inclined to carry saving to the point of parsimony, but 
a development of it, or of the prudence and forethought on 
which it depends, among the working classes. Accustomed 
for generations to live from hand to mouth, wage-earners are 
only just beginning to appreciate how much the accumulation 
of property may contribute to their well-being. Its principal 
advantage for them, individually, is that it will serve to carry 
them over periods of unemployment without that loss in effi- 
ciency that is the most pitiful result of enforced idleness for 
men who have nothing to fall back upon. For the whole com- 
munity the aggregate savings of a thrifty laboring population 
would cause a great increase in its equipment of capital goods, 
and a corresponding improvement in its industrial processes. 
On both accounts the development of providence and fore- 
thought among the masses is earnestly to be desired. Equally 
important are improvements in the conditions of wage-earners 
which will encourage them to save by rendering spending up 
to the full limit of their incomes less imperatively necessary. 

REFERENCES FOR COLLATERAL READING 

*8eligman, Principles of Economics, Chap. XXI.; *Clark, Essentials 
of Economic Theory, Chaps. XI. and XVIII.; *Carver, Distribution of 



152 LABOR AND CAPITAL 

Wealth, Chap. II.; * Bullock, Selected Readings in Economics, Chap. 
XI.; * Marshall, Principles of Economics, Book IV., Chap. VII.; *B6hm- 
Bawerk, The Positive Theory of Capital, Books I. and II.; *Pierson, 
Principles of Economics, Part I., Chap. IV. ; * Taussig, Principles of 
Economics, Chap. V. 



CHAPTER X 

PRODUCTION: COOPERATION AND BUSINESS 
ORGANIZATION 

§ 85. Important as is an individual 's capacity as a con- Coopera- 
dition determining his productive efficiency, the way in which ti^^^- 
he cooperates with others is even more essential. Alone, 
a man can do little more than keep himself alive, even in the 
most favorable environment. Working in cooperation with 
others he so multiplies the results of his toil that he can pro- 
vide himself with comforts and luxuries as well as with neces- 
saries. 

Three varieties of cooperation may be distinguished: (1) Varieties of 
Simple cooperation, that is, the simple working together of Codpera- 
several for the attainment of a common purpose, as when ^°^* 
several unite to move a stone or raise a mast. (2) The 
division of employments, by which each gives his entire time 
to some one branch of production, such as farming, boat- 
building or shoe-making, and exchanges his products for the 
products of others. This is commonly described as the simple 
division of labor. It is an indirect form of cooperation in that 
in realizing it men work together not at the same but at • 
different tasks, expecting to share their unlike products by 
means of exchange. (3) The subdivision of tasks in each 
employment, as when in shoemaking one makes the soles, an- 
other the uppers, another combines them, etc. This may be 
conveniently designated as the complex division of labor and is 
a chief characteristic of the factory system. As cooperation 
it also is indirect. 

Progress in indirect cooperation, or the division of labor, Importance 

depends upon the development of markets and other facilities °^ Growth 
„ , ^ , ^ , u 1 of Markets, 

for exchange. For example, a man cannot be a shoemaker 

unless shoes are in demand by people willing and able to pay 

for them. Much less can a shoe factory be organized, with 

153 



154. COOPERATION AND BUSINESS ORGANIZATION 

its elaborate subdivision of tasks and large output, unless 
shoes can be sold at remunerative prices. From this it may 
be inferred that every improvement tending to widen the 
market for goods is favorable to a further extension of the 
division of labor. The truth of this conclusion is abundantly 
illustrated by the history of the last one hundred years. 

Influence of Before the era of steam vessels and steam railways the 
mprove market for most products was restricted by the high cost of 

TransDorta- transportation to limited areas near the sources of supply. 

tion. Each region had to produce for itself its bulkier food articles, 

building materials and implements, and could import from, 
or export to, other regions only those products which were 
light and costly. Under these circumstances the division of 
labor could be little practised. Country districts afforded em- 
ployment to a blacksmith, a carpenter and a few other special- 
ists. A few cities grew up where those goods which could 
pay the relatively high costs of transportation were manu- 
factured. But the majority of the people were forced by 
the conditions to give their attention to agriculture as the 
only means by which they could earn a living. Steam and, 
more recently, electrical transportation have changed this situ- 
ation. At present the cost of carriage offers no insurmount- 
able obstacle to the shipment of even cheap and bulky articles, 
such as wheat and coal, half-way round the world. For most 
goods, in place of a merely local market, there are now gen- 
eral markets ranging in magnitude from the market afforded 
by a large city to that of the whole world. Perishable goods, 
services and goods for which there is only a local demand, 
must still be produced on a small scale to meet local require- 
ments, but the proportion of these goods to the whole mass of 
products is constantly diminishing. Even fruit and fresh 
meat have ceased to be perishable in the sense that they will 
not bear transportation to distant markets. Accompanying 
this widening of markets there has been a concentration of 
special industries in special localities and of business manage- 
ment in fewer and fewer hands. In this way full advantage 
has been taken of opportunities for extending the division 
of labor, with the result that the volume of goods produced 
has been enormously increased. 



ADVANTAGES OF COOPERATION 155 

§ 86. Capacity to cooperate depends upon certain well- Qualities 
defined qualities as much as does individual capacity to pro- Necessary 
duce. Of these qualities the principal are: (1) honesty, (2) to^^ective 
steadiness, (3) a spirit of conciliation, (4) ready obedience to Jj^-^'^^" 
superiors and (5) organizing ability. The first four are neces- 
sary to the mass of men and will be considered here, the last 
is necessary chiefly to those who assume the task of industrial 
leadership and will be considered in a subsequent section. 

Honesty is indispensable to mutual confidence, and coopera- Honesty, 
tion cannot be carried far unless men trust one another. 
Steadiness is necessary, because without it a complex division Steadiness, 
of labor would be wasteful rather than economical. When 
tasks are subdivided the performance of each successive one 
must wait upon the performance of the preceding. Unless all 
or nearly all the workmen in a factory are present at the same 
hours each day the whole process is disturbed. A spirit of Spirit of 
conciliation is necessary because working together involves Concilia- 
being together, and this entails constant friction unless each 
is willing to make concessions. Finally, ready obedience to 
superiors is essential to the success of a complex division of Obedience, 
labor, because this involves planning by one set of people and 
execution by another. 

These qualities are fostered by the very division of labor These 
to which they are necessary. In other word^ those peoples ^"^"*^^s 
who have been accustomed to the division of labor longest have „ .. 
them most highly developed, while those who have only known tion Itself, 
isolated production are usually lacking in some if not in all 
of them. From this it results that the introduction of a 
division of labor into a new region is usually difficult, while 
its extension after it has once been established becomes in- 
creasingly easy. The disciplinary value of a complex division 
of labor is clearly shown by the contrast between an industrial 
and an agricultural population. The former is steadier and 
more social, while the latter is more independent and self- 
reliant. 

§ 87. The three forms of cooperation that have been de- Advantages 
scribed assist production in a variety of ways, of which the ° oopera- 
principal are as follows: 

(1) Men working together, as in the building of the Pyra- 



156 COOPERATION AND BUSINESS ORGANIZATION 



Disadvan- 
tages of Co- 
operation. 



mids, can do things which men working singly could not 
possibly do. 

(2) By simplifying the work of each man, a division of 
labor shortens the time needed to master a trade. In place 
of the seven years' apprenticeship once necessary, modern 
methods of production call for but a few months special 
training for most positions. 

(3) The division of labor offers a varied field for industrial 
activity and thus enables each man with special aptitude or 
talent to devote his entire time to the work for which he is 
best fitted. 

(4) By reducing the labor of each man to a few simple 
motions the complex division of labor is favorable to the 
acquisition of great dexterity. Hand and eye come to act 
almost automatically and with a quickness and accuracy un- 
attainable by a man constantly varying his task. 

(5) The same simplification and concentration of effort are 
favorable to the progress of invention. When work is so sub- 
divided that each hand makes but two or three simple mo- 
tions, the time is ripe for the invention of a machine to take 
the place of labor. Thus the goal toward which the division 
of labor is ever tending is the invention of labor-saving 
machinery. 

(6) Cooperation permits the most economical use of land 
and natural forces. Each section may be devoted to the 
production of that particular good for which it is best fitted 
just as each man may devote his time to his chosen specialty. 
This is called the territorial division of labor and is increas- 
ingly important as improvements are made in methods of 
transporting goods from the place of production to that of 
consumption. 

§ 88. Against these advantages of cooperation must be 
weighed one decided disadvantage. Specialization is narrow- 
ing. If it requires a man to work long hours with his muscles 
it is likely to cut him off from opportunities to develop his 
mind. On the other hand, if it limits him to an intellectual 
pursuit it is likely to deprive him of the vigorous exercise 
needed by his muscular system. Specialization is inimical to 
that all-round development of character and capacity which 



STATISTICAL EVIDENCE 157 

is the natural consequence of varied interests and varied pur- 
suits. Carried to excess it unfits men for the enjoyment of 
that very wealth which it helps them in such large measure 
to secure. 

In giving full weight to this disadvantage it must not be Other Con- 
overlooked that cooperation, especially as it is developed in siderations. 
connection with the factory system, serves to bring specialists 
together and give them the benefit of that social intercourse 
which the isolated producer so sadly misses. Those who work 
in factories describe the social aspects of their labor as in 
large measure compensating them for the monotony of their 
simple tasks. If increased leisure could be added to the inter- 
change of ideas which the factory permits, the evils of speciali- 
zation would be reduced to a minimum. 

§ 89. It is not easy to show in a statistical way how much Statistical 
the world owes to progress in cooperation and the division J^^ enceo 
of labor. An important incident of this progress has been, as ^^.^^^ q^_ 
already suggested, the invention of machinery to take the operation, 
place of specialized workers, and in those cases where the 
division of labor has been carried furthest machinery now 
plays such a large part that it is impossible to decide what 
share of the productive results should be credited, historically, 
to each. One of the best ways to get an impression of the 
industrial results of the division of labor is to compare the 
work of a hand shoemaker, which may still be observed in 
many parts of the United States, with that performed in a 
well-organized shoe factory. According to an investigation 
made by the United States Bureau of Labor, the number of 
distinct processes into which the manufacture of men 's brogan 
shoes is now divided is eighty-four. Many of these are per- 
formed by automatic machines. It is calculated that the 
McKay machine for attaching the soles of shoes to the uppers 
turns out in one hour and thirty-eight minutes one hundred 
pairs, which it would take ninety-eight hours to sew, and 
twenty-five hours even to peg, by hand. From 1855 to 1895 
the efficiency of labor is said to have been multiplied fivefold 
in the shoe industry in the United States through the intro- 
duction of a division of labor and of improved machinery. 

In Adam Smith's day the best illustration of the division 



158 COOPERATION AND BUSINESS ORGANIZATION 

of labor that came under his observation was that used in the 
manufacture of pins. He showed that through the division 
of labor the average product of pins to each hand employed 
in a pin factory was 5000 per day and contrasted this with 
the one crude pin a day which a single artisan might perhaps 
turn out if he had to do the whole work by himself. At 
present pins are manufactured by automatic machinery and 
1,200,000 per workman per day is said to be the output of a 
well-equipped factory. The progress in screw making is even 
more remarkable. According to estimates made by the Bureau 
of Labor 10,000 screws are now made by an expenditure of 
16.7 minutes of human labor in comparison with 1250 hours 
formerly required to produce the same number. 

Similar examples of progress due partly to the division of 
labor and partly to the introduction of labor-saving machinery 
might be multiplied for every branch of manufacturing. The 
subject has been exhaustively treated in a special report issued 
by the Bureau of Labor * and this may be consulted for other 
striking illustrations of improvement. On the whole it is not 
too much to say that the efficiency of labor in manufacturing 
has been increased many hundredfold by the abandonment 
of isolated production and hand processes in favor of the 
division of labor and machinery. In other branches of pro- 
duction progress has been less remarkable for the simple reason 
that they are less well adapted to these improvements. 
Business § 90. Business organization has been carried to such a point 

Organiza- -^^ modern communities that few persons now produce for 
themselves the things that they require. Even in country dis- 
tricts the typical farmer is no longer the pioneer raising food 
and materials for his family, but the producer for the market 
who looks to the market for most of the things that he needs. 
We have called this development " progress in cooperation," 
but it is evident that the resulting cooperation is not deliber- 
ately planned by those who participate in it It arises spon- 
taneously as each one follows his own interest without thought 
of his neighbor. As a country district emerges from the 
pioneer stage, different men discover that it pays them better 
to be specialists and to produce for the market than to produce 
* Report of 1898 on Hand and Machine Labor. 



THE ENTERPRISER 159 

for themselves. Thus a simple division of labor is introduced 
to supplement the simple cooperation that prevails even 
among animals. The complex division of labor follows in due 
course because of its superior effectiveness, and in this way, 
as time goes on, cooperative production displaces isolated and 
individual production.* 

The success of industrial cooperation depends in large The 
measure upon the ability of business managers or enterprisers. Enterpriser. 
These are the men who act as directors of industrial under- 
takings. They decide what shall be produced and how it 
shall be produced. They hire workmen and determine what 
they shall do. They borrow money and convert it into par- \ 
ticular forms of capital goods or exchange it for land. Finally, /) 
they assume the risks of the businesses in which they are en- 
gaged, undertaking to pay wages, interest and rent whether 
or not the results are satisfactory. x V 

The qualities needed by an enterpriser are not unlike those 
required by a military leader. He must have energy and 
enterprise. He must be a good judge of men and of con- 
ditions. He must have confidence in himself and be able to 
inspire confidence and a feeling of loyalty in others. Above 
all he must have organizing ability, that is, the faculty of 
combining men and things in the most effective way for the 
realization of a desired result. A community that is well 
supplied with leaders having these qualities is sure to have 
its industrial forces turned to good account. Its workmen 
will be assigned the special tasks for which they are best 
fitted so far as conditions permit, and its capital will take 
the form of the capital goods that are found to be most 
efficient. Invention and discovery will be highly appreciated 
and progress in the technique of production will be rapid. 
Even a few capable enterprisers may secure these important 
results for a community. They serve the public not only by 
organizing efficiently the special branches of industry which 
they direct, but by setting standards which less able men are 

* To distinguish this spontaneous or competitive cooperation from 
the copartnership of workmen in the management of industrial enter- 
prises, to which the term " cooperation " is frequently applied, the 
latter is referred to in this book as "labor copartnership." 



160 COOPERATION AND BUSINESS ORGANIZATION 



only too glad to copy. Thus it is not uncommon in the United 
States to find whole towns which are literally " run " by one 
or two men. The same men acting in combination are coming 
more and more to control the important industries of the 
country, and this gives them an influence for good or evil 
that can scarcely be exaggerated. The greater the powder of 
these directors of the community's industries, the greater the 
importance that must be ascribed to personal qualities in de- 
termining the direction of industrial development. This im- 
portance of personality as a factor in modern business was 
strikingly illustrated in the spring of 1900 when several 
English investors took out insurance policies on the life of 
America's leading financier, to protect themselves in case his 
death should intervene to prevent the consummation of certain 
gigantic financial projects of which he was the originator and 
guiding spirit. 

§ 91. The simplest form of business organization is that in 
which a single enterpriser controls the whole undertaking. 
He may do everything for himself and use only his own cap- 
ital, as do usually doctors, lawyers, cobblers, etc., or he may 
Enterpriser, employ hired workmen and borrowed capital. In the United 
States many businesses employing thousands of men and using 
millions of capital have grown up under the responsible man- 
agement of single individuals. The advantages of such a one- 
man organization are obvious. Its disadvantages are that 
one man, however able, cannot be equally competent to direct 
all departments of a large and complex business and that the 
capital that one man can command is small in comparison with 
that which may be secured by a number of men associated 
together. 

These disadvantages are to some extent overcome in a second 
form of business organization, the partnership. A partnership 
is an association of two or more individuals who are jointly 
and severally responsible for the management of the enter- 
prise in which they are embarked. On forming a partnership 
the partners become individually liable for all of the obliga- 
tions of the firm and agree that any contract entered into by 
either partner in the firm's name shall be binding on all. 
This form of organization is well fitted for businesses calling 



Forms of 
Business 
Organiza- 
tion: 
The Single 



The Part- 
nership. 



ADVANTAGES OF CORPORATIONS l6l 

for a diversity of talents and requiring no more capital than 
a small number of men may command. Until the last fifty 
years it was the common form of organization for businesses 
that had outgrown individual control. Recently it has given 
way quite largely to the corporation, the third important form 
of business organization. 

A corporation is an association of individuals known as TheCor- 
stockholders who are empowered by legal charter to elect a poration. 
board of directors and through it to act as one person in the 
conduct of the specified business. Corporations enjoy, usually, 
perpetual life. They may sue or be sued, incur debts, enter 
into contracts— in short, do everything necessary to the con- 
duct of business, within the limits prescribed by their charters 
of incorporation, as though they were individuals. The lia- 
bility of the stockholders in corporations is limited usually in 
the United States to the capital actually paid in or pledged 
in return for stock. Sometimes, as in the case of the national 
banks, stockholders are further liable for a sum equal to the 
par value of the stock they own, but this liability is never 
unlimited as is that of legally constituted partners.* 

§ 92. Some of the advantages of the corporation for business Advantages 
purposes are: (1) It continues even though its promoters die of Corpora- 
or retire from business. (2) It draws its capital in large or 
small quantities from widely different sources and may com- 
mand any amount, however great, for an enterprise in which 
investors have confidence. (3) It may profit by the intermit- 
tent attention of directors whose ability and experience make 
their services of the greatest value, but who could not be in- 
duced to assume the risks incidental to partnerships. (4) It 
is flexible, permitting a complete change of management when- 
ever the stockholders deem this expedient, through the simple 
process of an election at an annual meeting. 

These considerations and others of less importance have Their Dis- 
caused the corporate form of organization to be adopted for a advantages, 
great variety of enterprises. It is probably within the truth 

* Limited-liability partnerships are not included in the above descrip- 
tion because they have become an unusual type. In the United States 
each state and territory exercises the privilege of -incorporating com- 
panies and prescribing the regulations with which they must co*nply. 
The description given applies to the ordinary business corporation. 



162 COOPERATION AND BUSINESS ORGANIZATION 



Diffused 
Responsi- 
bility. 



Abuse of 

Borrowing 

Power. 



to say that one-half of the business of the United States is 
now controlled by corporations and there is every indication 
that the proportion is increasing. This makes important the 
recognition of certain drawbacks attaching to the corporate 
form of organization. Chief among these is the fact that 
responsibility for the management of corporations is diffused. 
In one-man businesses and partnerships the men who organize 
and manage the enterprise are the ones most vitally interested 
in its success. In corporations the stockholders, who usually 
furnish the capital required and have to bear the loss if things 
go wrong, intrust their interests to the board of directors. 
The board of directors in turn deputes the actual management 
of the business to a salaried president or manager who may 
not, and often does not, have any further interest in the busi- 
ness than that his reputation depends upon the honesty and 
wisdom with which he manages it. The enterpriser function 
is thus divided in the corporation between three parties no 
one of whom has the same vital interest in the business that 
the single enterpriser or partner feels in businesses conducted 
on the other plans. Moreover, few directors or managers have 
not, at times, private interests in conflict with the corporate 
interests they are supposed to promote. This diffusion of re- 
sponsibility and of interest causes corporate management to 
be often wasteful and sometimes corrupt. The salaries paid 
are frequently higher than they need be to secure the required 
grade of labor, appointments are often determined by personal 
rather than by business considerations, and inflated prices are 
sometimes paid for materials in consequence of the fact that 
particular directors are interested in their production. More 
common than these clear violations of trust are misrepresenta- 
tions in regard to the affairs of the corporation intended to 
influence the stock market and to enable those interested to 
carry through deals for their own benefit. 

Another abuse is connected with the borrowing power of 
corporations. When this power is used to secure money by 
means of a sale of bonds the law gives to bondholders no voice 
in the management of the corporation so long as their interest 
is paid and the principal is not defaulted. The larger the 
proportion of the capital required for any enterprise that is 



DISADVANTAGES OF CORPORATIONS l63 

secured through the sale of bonds, the smaller is the interest 
in the business of the stockholders, who nevertheless continue 
to control it. It has often happened in connection with rail- 
way corporations in the United States that the entire capital 
has been secured by selling bonds and that the stock has rep- 
resented simply a bonus paid to the promoters of the com- 
pany. This is a situation fraught with danger, as American 
experience has abundantly proved. To give a fictitious value 
to their stock, promoters are only too apt to pay dividends 
out of earnings that should be expended for renewals and re- 
placements. Before the corporation is reduced to bankruptcy 
they can usually sell their holdings to unsuspecting investors 
and retire, leaving to them the task of reorganizing the 
business. 

A third set of evils has reference to the general or public Political 
interest in corporations. Individuals in their pursuit of gain Corruption, 
are controlled by the moral standards of their business asso- 
ciates. Corporations have no moral standards. Their direc- 
tors have shown themselves willing to wink at practices on the 
part of the officials they appoint to which they would not 
themselves stoop. Corporate officials, moreover, do not hesi- 
tate to do things in the name and under cover of their cor- 
porations which they would be ashamed to perform openly 
for themselves. In the United States corporations have been 
guilty of buying legislatures, corrupting judges, bribing juries, 
entering into agreements with political parties insuring them 
certain privileges in return for campaign contributions, and 
in fact of every sin in the political calendar. 

It is owing largely to them that the tone not only of business 
but of political morality is so much below the standards of 
private life. This third group of evils is at the basis of the 
" corporation problem." As this is a phase of the more im- 
portant ' ' trust problem ' ' its fuller discussion is postponed to 
Chapter XXV. 

The stockholders of corporations might from what has been Dependence 
said be expected to manifest an active interest in their man- ° Corpora- 
agement, and this is true of large stockholders who are likely gyg^ggs ^^ 
to be at the same time directors. Small stockholders, however, single In- 
are very often surprisingly indifferent so long as dividends dividuals. 



164 COOPERATION AND BUSINESS ORGANIZATION 

are regularly paid and nothing occurs to excite their suspicion 
that the business is being improperly managed. When a cor- 
porate enterprise is first launched its stock is likely to be taken 
in large blocks by the men most interested in it and most 
sanguine of its success. Some shares may go to the general 
public, but usually a controlling interest is retained by the 
men who have most to lose if the business fails. During the 
first year or two the stockholders and the active directors are 
thus apt to be identical or so nearly so that risk and responsi- 
bility go together. Among the directors there is likely to be a 
guiding spirit who performs all the essential functions of the 
enterpriser except that others share with him the risks of the 
undertaking and the minor details of management. After a 
corporation is firmly established on a paying basis the same 
conditions may and often do continue, but it is quite as likely 
that the organizers will gradually dispose of their stock to 
investors so that they may have their capital free for the 
promotion of other enterprises. When this occurs the stock 
is gradually diffused throughout the community until the 
largest holdings represent far from a majority of the out- 
standing shares and the control of the corporation has vir- 
tually passed out of the hands of the few into the hands of the 
many.* Under these conditions the control of the business 
depends not on the actual investment of capital in it, but on 
control over the votes of widely scattered and uninformed 
stockholders. The situation is still favorable to the ascend- 
ency of some one man of great organizing ability and much 
depends upon the moral qualities that such a man brings to 
his position. If he is self-seeking and unscrupulous he may 
pack the board of directors with followers of the same stamp 
and deliberately wreck the enterprise for his own aggrandize- 
ment. If, on the other hand, he is honestly anxious to promote 
the interests of the company, and brings ability to his task, he 
will put in as directors the best men he can secure and build 
up an organization whose efficiency will compare favorably 
with that of businesses owned and controlled by single enter- 

* The majority of the stockholders in some of the best knowTi 
American corporations, for example, the Pennsylvania Railroad, are 
now women. 



LARGE-SCALE PRODUCTION 165 

prisers or partners. At each stage in corporate development 
the tendency thus appears to be toward control by one man 
or a small group of men, however widely the stock may be 
distributed. Successful corporations are as much one-man or 
few-men enterprises, as regards their actual management, as 
firms composed of partners. The chief difference is that cor- 
porate enterprisers incur but a small part of the actual risk 
of loss that partners incur and must be held to the efficient 
performance of their duties, if at all, by higher standards of 
honesty and faithfulness to trust than are demanded in the 
simpler form of organization. Notwithstanding the many 
abuses connected with corporate finance in the United States 
the rapid extension of the corporate form of organization is 
convincing proof of parallel progress in business morality. If 
directors of corporations were not as a rule honest and upright 
men, few large corporations would be formed, for the simple 
reason that few people would be Avilling to invest their savings 
in such hazardous enterprises. 

§ 93. Different branches of production vary greatly as re- Large v. 
gards the size of the business unit which is best adapted to Small Scale 
them. In farming in the United States the small farm of ^^^oduction. 
from twenty to two hundred acres seems to be displacing the 
larger farm of five hundred acres and upwards. In manu- 
facturing and transportation, on the contrary, large-scale pro- 
duction is becoming more and more the rule. The principal 
merit of small-scale production is the undivided attention 
which it permits the enterpriser to give to all of the details 
of the business. This is particularly important in farming and 
in artistic and professional work, where continuous attention 
to matters of detail is the chief requisite to success. It is less 
important in manufacturing and transportation because the 
operations required in these businesses can be reduced to 
routine and an efficient check on the work of employees can 
be maintained by occasional attention to what they are doing. 
In these industries a great variety of contrivances which com- 
pel men to register the results of their work as they perform 
it have been invented, and these act as mechanical substitutes 
for " the master's eye." Also where automatic machinery is 
used, the pace is set for all operatives and they have to fall 



Scale 
Production 



166 COOPERATION AND BUSINESS ORGANIZATION 

in with it or incur the risk of being discharged for incom- 
petence. Then, the system of paying wages in proportion to 
the amount produced either through the piece-wage system or 
some form of the premium or bonus plan, makes the interest 
of the employee as great as that of the employer in the 
efficiency of his work. Finally, so-called '' scientific manage- 
ment," the system by which specialists study the different 
tasks to be performed, decide how and by what class of 
workers they can be most efficiently done, and assist in select- 
ing the right individuals for them and directing them how to 
work, goes far to make directed employees as efficient as men 
working for themselves. 
Advantages Large-scale producers enjoy besides important positive ad- 
of Large- vantages: (1) As was pointed out in connection with the dis- 
cussion of partnerships and corporations, they can command 
a variety of different talents and place them in those depart- 
ments for which they are best fitted. This is another way of 
Division saying that they are able to apply the division of labor even 
abor. ^.^ ^^^q executive branch of the business and to reap all of the 
advantages that result from it. For a simple business such as 
farming, which, because of its periodic character, offers con- 
tinuous employment to no specialists, this consideration is of 
slight moment. For manufacturing and transporting indus- 
tries, however, which have several departments going all at 
the same time, it is very important. 
Equipment (2) Large-scale production permits the economical utiliza- 

of Capital ^-Qj^ q£ expensive machinery and equipment which the small- 

Setter 

E lo d scale producer cannot afford, or which it would not pay him 

to have because his small business would not keep it continu- 
ously employed. Farmers surmount this difficulty in a meas- 
ure by owning expensive machines jointly and sending them 
round from one farm to another as they are required. Manu- 
facturers can hardly do this because their machinery is for 
the most part stationary. At best it is a poor substitute for 
undivided ownership and control, as all farmers who have 
tried it testify. 

The above consideration applies with special force to the 
transporting industries. Canal and railroad companies re- 
quire costly excavations and roadbeds. In these a large part 



ADVANTAGES OF LARGE PRODUCERS l67 

of their capital is invested, and interest on this capital and Especially 
outlays connected with the maintenance of way constitute a ^" Trans- 
large element in their expenses. The amount of traffic that ^"^^ "^^ 

,, , 1 -1 T . ,. . , , Industries, 

may pass through a canal or over a railroad is limited only 

by the frequency with which boats or cars may safely be sent 
after one another. Moreover temperature changes, storms, etc., 
determine the expense of keeping the system in repair even 
more than the volume of business done. It results from these 
facts that the expense — as regards capital account — per pas- 
senger or per ton of freight carried diminishes steadily as the 
volume of business grows. The original cost and the outlay 
for maintenance of way appear as fixed charges and the larger 
the business done the smaller is the expense per unit as regards 
these items. If the running expenses per unit are fairly con- 
stant, as they are apt to be for a well-managed canal or rail- 
road, the large-scale transportation company has here a marked 
advantage over its smaller competitor and an advantage which 
grows as the business grows until the traffic has become so 
large that it cannot be handled without numerous accidents. 
In the light of these two advantages concentration in the 
transporting industries and in many branches of manufactur- 
ing seems a perfectly natural and economically desirable ten- 
dency. 

(3) A third advantage of the large-scale producer is in Economy- 
connection with the purchase of materials and the sale of in Buying- 
products. Sellers of materials are willing often to make con- Supplies. 
cessions to large buyers, and in marketing products the large 

seller may arrange his advertising more economically than his 
small competitor. 

(4) Large-scale producers can make a better use of by- Saving 
products. In the mineral oil and the meat-packing industries Through 
large-scale production has made possible the utilization of ^~ 
v\^aste products to an extent undreamed of when these busi- 
nesses were carried on by small firms, and to the advantage 

of the whole community. 

(5) A fifth advantage is found in the large expenditures Can Spend 
which a large-scale producer is able to make on experiments More on Ex- 
looking to the improvement of the technique of production, periments. 
In businesses which are changing their methods continuously, 



168 COOPERATION AND BUSINESS ORGANIZATION 



Classifica- 
tion of 
Business. 



J 



The Hepre- 

sentative 

Firm. 



to be the first to introduce a valuable innovation means often 
the difference between success and failure. Many of the man- 
ufacturing establishments which have been most successful in 
the United States in recent years, such as the Carnegie Steel 
Company of Pittsburg, have owed their success in no small 
degree to their lavish expenditures on industrial experiments 
and for the installation of new machinery as soon as its 
superiority to that in use has been demonstrated. 

Large-scale production, it must be clearly understood, is by 
no means synonymous with monopoly, or exclusive control, 
of a given branch of production. Nevertheless, in those cases 
in which the advantages of large-scale production persist, no 
matter how large the producing unit becomes, monopoly is 
the goal toward which the business is developing and which 
it will ultimately attain. This suggests a threefold classifica- 
tion of industrial enterprises: (1) businesses in which the 
small-scale producer has the advantage, as in farming in the 
United States; (2) businesses in which large-scale production 
is more economical up to a certain point, beyond which the 
loss in efficiency resulting from the absence of the direct and 
personal supervision of the enterpriser more than offsets the 
gains from further concentration; (3) monopolies. 

§ 94. As special chapters are devoted to monopolies it will 
not be advisable to discuss them further at this point. Al- 
though numerous and perhaps multiplying in the United 
States, monopolies as yet dominate but a small part of the 
vast field of production. Farming, most branches of mining, 
lumbering, fishing, manufacturing, trade, banking and many 
branches of the transporting industries are still controlled 
more or less completely by competition. In each of these in- 
dustries at any given time there is a certain size of business 
plant which under average management is most conducive to 
economical production. This may be designated as the repre- 
sentative firm. As methods of production change, the size 
of the representative firm of course changes also, but such 
changes are gradual and may without serious error be over- 
looked in connection with the consideration of the broader 
problems of economics. 

The representative firms in each branch of business may, 



CONCLUSION 169 

as Professor Marshall has suggested, be compared to the full- 
grown trees of a primeval forest. Around them and competing 
with them for customers are overgrown firms that are falling 
into decay and new firms that are gradually making a place 
for themselves, just as in the primeval forest overgrown and 
decaying trees and aspiring young saplings struggle with their 
full-grown brothers for a share of earth and sunlight. And 
just as the trees of full growth are the dominant feature in a 
primeval forest, so representative firms dominate in business. 
In the next chapter we pass from production to distribu- 
tion. Both parts of economics deal with the same phenomena, 
that is, with wealth creation through the application of labor 
aided by capital to land, but while in production the creation 
is the important thing, in distribution the motives which con- 
trol men and the relation of the parts which different factors 
play in this creation are important because upon them depends 
the division, or sharing, of the Avealth created. 

REFERENCES FOR COLLATERAL READING 

*8eligman, Principles of Economics, Chaps. XIX. and XXII. ; *Bullock, 
Selected Readings in Economics, Chap. X.; * Marshall, Principles of 
Economics, Book IV., Chaps. VIII. -XIII.; Nicholson, Principles of 
Political Economy, Book I., Chaps. VII.-X. ; * Taussig, Principles of 
Economics, Chap. III. 



CHAPTER XI 



PRODUCTION AND DISTRIBUTION 



Relation 
Between 
Production 
and Distri- 
bution. 



Definition 
of Net 
Product. 



§ 95. In the preceding chapters the products of industry 
have been referred to sometimes as commodities and services, 
sometimes as economic goods and sometimes as valuable utili- 
ties. It is these same commodities and services, goods or 
utilities, that are the objects of distribution. If the identical 
goods produced were directly and immediately divided among 
those who take part in their production, the matter would be 
comparatively simple. But such production '' on shares " be- 
longs to a primitive stage of industrial development. Under 
modern conditions goods are nearly always produced for sale, 
and it is the money or purcliasing power received for them, 
rather than the goods themselves, that is the first concern of 
distribution. Consider, for example, the case of some typical 
business establishment, like a shoe factory. The manager of 
such an enterprise would never think of compensating his 
employees or others who have claims upon him with pairs of 
shoes, the products of his business. Instead, he sells his shoes 
as they are produced for the best prices obtainable, and the 
money or purchasing power he receives for them is what he 
really divides, either actually or in anticipation of its receipt, 
among those who have claims upon the product. 

In determining what the product has been, and, therefore, 
what is the money return to be divided, it must be remembered 
that not all the new commodities and services produced during 
a year are to be credited to the year's industry. In connection 
with every branch of production there is a destruction of 
commodities and services for which full allowance must be 
made in the gross product before the net product, or what 
has really been added to the wealth of the world, can be cal- 
culated. The farmer uses up seed, fertilizers, tools and farm 
buildings. The manufacturer destroys raw materials, fuel, 

170 



MONEY AND REAL INCOME 171 

machinery and factories. Even the banker and professional 
man use up stationery and office furniture. These losses and 
wastes, which are a necessary part of all production, must be 
met by the deduction from the gross returns of the 'year's 
business of what we may call the replacement fund. Through 
this fund raw materials and partially finished products, de- 
stroyed or altered in form, are replaced; buildings, machines, 
tools and other things subject to wear and tear are repaired 
and renewed; and, finally, provision is made for substituting 
for worn-out machines and other equipment, new capital goods 
of at least equal efficiency. The deduction to be made from 
the gross product for the replacement fund is calculated as 
a sum of money or purchasing power. In our shoe factory, 
for example, the capital goods used up in the process of pro- 
duction cannot be replaced literally out of the product. It is 
not shoes that are needed, but leather, tools, repairs on build- 
ings and machinery, etc. The expense of making these re- 
placements and repairs is calculated in money and deducted 
from the gross money return from the year's business. The 
net money return which is left, and which we shall designate 
in future as the money income, is the first object of the dis- Of Money 
tributive process. ncome. 

But if money or purchasing power is the first thing dis- 
tributed, it is merely as a means to an end. Those who take 
part in production desire primarily not money, but want- 
gratifying goods. To determine what is really distributed, 
we must inquire what is bought with the money income, for of Real 
this is the real income* Thus a complete account of distribu- Income. 

* There has been a good deal of discussion among economists recently 
as to what constitutes the real income. In strictness it should be defined 
as consisting of the flow of gratifications enjoyed hy the individual or 
group of individuals under consideration in the given income period. It 
is to secure these gratifications that money income is given up. These 
and these only are income in the ultimate sense of the word. The 
difficulty is that flows of gratifications are not as a rule purchasable. 
Exception from this statement must be made of personal services and 
of durable consumption goods that may be leased, but this merely 
emphasizes the fact that ordinarily it is the sources from which grati- 
fications floAv, that is, commodities, not the gratifications themselves, 
for which money income is exchanged. For this reason, it is more 
convenient to define real income as consisting of the services and com- 
modities for which money income is expended; services in the case of 



172 



PRODUCTION AND DISTRIBUTION 



Distribu- 
tion from 
Viewpoint 
of 
Enterpriser 



Definition 
of Wages- 
of-Manage- 
ment. 



tion must follow the money income, the price received for the 
products of industry less the necessary deduction for the re- 
placement fund, until it is reconverted into the products of 
industry and the circle of production, exchange and distribu- 
tion is closed. 

§ 96. As business is now organized, the leading role is 
played by the enterpriser. From his point of view all the 
shares in distribution, except his own profit, are expenses of 
production. As preliminary to a more complete analysis, it 
will be well to consider the process of distribution as it appears 
to a business man in some typical enterprise, like our shoe 
factory. 

From the viewpoint of motive, the first claim that must be 
considered is that of the enterpriser himself. He is in business 
for profit and unless at the end of the year some return re- 
mains over to compensate him for his own time and trouble 
he will be dissatisfied and may withdraw to some other occupa- 
tion. If we call the minimum profit necessary to induce him 
to continue to serve industrial society in his enterpriser 
capacity his wag es-of -management, we may say that from 
the enterpriser's own standpoint this is the most important 
of the shares into which the annual money income must reg- 
ularly be divided. In addition to the wages-of -management to 



personal services and commodities, such as houses, pianos, etc., that 
are merely leased; commodities when the purchase is outright. This 
procedure is free from logical objection so long as it is clearly recognized 
that the exchange of money income for commodities which will con- 
tinue to afford gratifications for longer than the unit income period, 
is partly an expenditure and partly an investment. For, as explained 
in Section 100, to logical analysis durable consumption goods have 
all of the essential characteristics of capital, and the money income 
that is exchanged for them is to some extent saved and invested rather 
than spent. Here as elsewhere in this treatise the effort has been 
to follow so far as logical consistency permits the usages of the 
business community. Business men habitually think of the year's 
money income as consisting of the net money return from the year's 
business, and of the real income for the year as consisting of the 
services and commodities for which this money income is exchanged. 
When the commodities purchased are sources of future as well as 
present gratifications, or are securities like stocks and bonds, that 
afford only future gratifications, they think of the transaction as a 
saving and investment of income. It is in these senses that we shall 
understand the terms money income and real income. 



SHARES IN DISTRIBUTION 173 

which he is entitled, the enterpriser, who is the risk-bearer as 
well as the manager of the enterprise, may receive an addi- 
tional profit or incur a loss. This irregular supplementary 
profit (or loss) is discussed in the next two chapters. 

The wages-of -management of the enterpriser is prospective. 
Normally it must remain after the other shares have been paid 
out of the money income, but these other shares must be paid 
first. In a shoe factory, or any other typical business, these 
other shares — all of them expenses of production in addition The other 
to the replacement fund which must be provided for as a mat- ^^^^^s: 
ter of course, — are: (1) rent for the use of land and natural 
powers; (2) wages to workers of different grades; (3) interest 
for the use of capital; (4) taxes. 

The rent of land or natural power was spoken of in Chapter Rent. 
VIII. as a profit over and above the expenses of production. 
To the farmer cultivating his own land it is an item of return 
rather than an outlay ; but to the enterpriser using leased land 
it is an expense. We designate rent here, without any quali- 
fication, as an expense, because even for the enterpriser using 
his own land it is virtually an outlay since by using the land 
he loses what he might have obtained had he leased it to 
another. 

The propriety of naming wages as one of the items of ex- Wages, 
pense is obvious. As the term is here used it includes all 
payments for labor, whether wages in the ordinary sense or 
salaries. 

The item of interest for the use of capital is calculated at Interest, 
a certain rate per cent per annum for the capital employed. 
Thus if a business ties up on the average throughout the year 
capital goods worth $10,000 and the current rate of interest 
is five per cent, $500 should be charged as expense for in- 
terest. This item should appear, if, in the shoe factory con- 
sidered, capital belonging to the enterpriser himself rather 
than borrowed capital were used. When borrowed capital is 
used, the expense for interest is an actual outlay ; when the 
enterpriser's own capital, it is a virtual outlay, since using 
the capital in the business prevents loaning it at the current 
rate to some other enterpriser. 

Taxes are an irregular charge from which many producers Taxes. 



174 



PRODUCTION AND DISTRIBUTION 



Business 
Man's Ex- 
planation 
of These 
Shares. 



are exempt. Their amount depends on the arbitrary decision 
of the taxing power, and for this reason as well as because 
they do not affect at all many branches of production we 
may leave them out of account in our further treatment of 
distribution. 

§ 97. A wages-of-management for himself, rent, wages and 
interest — these are the shares of income, as every business 
man will agree, which are the chief concerns of the distributive 
process. Nor does the explanation of these shares appear to 
the business man, who looks at the problem from the point of 
view of his own particular enterprise, specially difficult. The 
shoe manufacturer commands a wages-of-management because 
with the tried business capacity he must ordinarily have to 
attain to such a responsible position, there are numerous other 
employments open to him in which, either as enterpriser or 
hired-employee, his services would command compensation. 
The maximum return of which he has reasonable assurance 
in some other employment to which he can readily turn and 
which is equally easy and congenial, is the minimum that he 
will be willing to accept for any length of time and continue 
a shoe manufacturer. This is his wages-of-management. In 
normal times his profits must equal at least this sum or he 
will cease to serve society in this capacity. 

As the wages-of-management is explained by the individual 
business man by reference to alternative business opportunities 
that are open to him, so rent, wages and interest are explained 
by the many different uses to which pieces of land, workers 
and capital goods may be put and the active competition that 
exists among enterprisers to command the services of these 
limited means of production. The individual enterpriser pays 
wages at current rates, for example, because without workers 
he cannot carry on his business and to get and hold his labor 
force he must pay them at least as much as other enterprisers 
are willing to pay. The same considerations lead him to pay 
a certain rental for the land and a certain rate of interest for 
the capital he requires. The explanation thus involves two 
elements — the necessity the enterpriser is under of controlling 
these factors if he is going to continue his business and the 
active competition for them on the part of other enterprisers 



WAGES-OF-MANAGEMENT 175 

engaged in other lines of business, which is due in turn to the 
fact that the supplies of these factors are all limited in com- 
parison with the uses to which they may advantageously be 
put. 

Although true and valid so far as it goes, this explanation WhyEcon- 
is logically inadequate because it refers the wages-of -manage- o^^st Must 
ment, rent, wages and interest paid in one employment to the ° ^^' 

same shares paid in others. It suffices for the business man 
because it tells him everything that it is necessary for him 
to know to conduct intelligently his particular business. It 
does not suffice for the economist because he must explain how 
these payments are possible and why they are made, not in 
this particular business or in that, but in all businesses taken 
together. Before we grapple with this broader problem we 
may simplify our task somewhat by combining the item wages- 
of -management with the item ivages, since to both the same 
line of explanation must apply. 

§ 98. As business is now organized in progressive countries Explana- 
there is a demand for hired workers possessing every variety *io^ ^^ 
of ability. From the fifty cents a day paid to wage-earners ^^^s-of- 
in certain occupations in the United States to the $50,000 or ^^^^j^^ 
more a year paid to the heads of various banking, insurance, 
railway and industrial corporations is a long step ; but these 
and all intermediate earnings of hired workers are to economic 
analysis simply wages paid for services rendered. Nearly, if 
not quite, as comprehensive as the wages scale is the scale of 
the enterprisers' earnings or wages-of-management. All but 
the very lowest groups of hired workers have among them 
individuals who may, if they choose, set up in business for 
themselves. Even sweat-shop employees have as an alterna- 
tive occupation peddling, in which they assume the risks of 
loss. Agricultural workers may become homesteaders or may 
rent small plots of land to cultivate at their own risk. Similar 
but more numerous alternatives are open to the higher groups 
up to the highly paid managers of large corporate enterprises, 
any one of whom could, with his superior executive ability, 
direct successfully any one of a number of different businesses. 

When a man who is or might be earning a certain wage or 
salary as an employee, chooses instead to figure as an inde- 



176 PRODUCTION AND DISTRIBUTION 

pendent enterpriser, it is reasonable to assume that he expects 
to better his condition. He may make the change because he 
loves independence or because the new occupation is more 
congenial, but he is not apt to make it unless he expects also 
to realize the same or higher earnings than in the other posi- 
tion open to him. The wage or salary that might be obtained 
is thus a minimum profit or wages-of-management that must 
be paid to the enterpriser in order to secure his services in 
connection with his enterpriser function. At any given time 
the members of any group of workers may be distinguished 
into three types : ( 1 ) those who do well as employees, but have 
not the enterprise to set up in business for themselves, (2) 
those w^ho are planning to become enterprisers and are only 
waiting for favorable opportunities to begin, (3) those who 
have been enterprisers, but have been compelled through fail- 
ure to return to the ranks of hired workers. Individuals of 
the first type exert little influence on the earnings of their 
group. They accept what industrial conditions enable them 
to get. Those of the second and third types, on the other 
hand, are important factors in determining the amount of 
these earnings. The former are constantly studying other 
industrial opportunities and through their readiness to aban- 
don the positions which they have in order to launch out as 
enterprisers, the rate of wages for their group is prevented 
from falling below the earnings of enterprisers of the same 
grade. More important for our present purpose is the con- 
duct of persons of the third type, who have resumed their 
posts as wage-earners because their earnings as enterprisers 
have ceased to equal even the wages that they can obtain 
in such positions. Their ready return to the ranks of em- 
ployees prevents enterprisers' earnings from falling, except 
for brief periods, below the wage level. 

Included in i^ this explanation of the reasons that connect the wages- 
xpiana- of-management with wages generally, we have seemed to 

Waees ignore the fact that the alternative open to the enterpriser, 

which fixes the standard of his earning capacity, may be the 
chance of becoming an enterpriser in some other line of busi- 
ness. This possibility ought in strictness to be taken into 
account, but in practice the corporate form of business organi- 



INCREASING MONEY INCOME 177 

zation has now become so universal that it would rarely happen 
that comparison with what men of equal capacity are earning 
as hired employees was not the basis for determining the 
wages-of-management. Such earnings, it must be constantly 
borne in mind, are not necessarily small. " Bare wages-of- 
management " may mean anything from the one dollar a day 
or less of the itinerant peddler to the $50,000 a year or more 
of the highly successful business man. The point to be em- 
phasized is that the same explanation that accounts for wages 
or salaries accounts also for the wages-of-management cur- 
rently received by enterprisers of the same grade of capacity. 

§ 99. As already stated, it is not the combined net product Distribu- 
of all of the industries of the country, but the price of that t^o^ Con- 
product, or the money income, that is the first thing to be -^ 
distributed. The difficulties which result from this fact come income, 
from two directions and it will be well to discuss them at this 
point even though we cannot entirely remove them until later. 

If distribution were concerned directly with the net product Increasing 

a demonstration that with the aid of more land, or more work- „^ ^° 

■ -, ^ 1 T 1 T n ,11 Normally 

men, or more capital goods more could be produced would be increases 

proof that a larger fund would be available to distribute and Money- 
would suggest the idea that the additional product should be Income, 
credited as rent, or wages, or interest to the factor which 
caused it to be created. But since distribution is concerned 
with the price of the net product, it no longer follows of 
necessity that a larger net product will mean a larger fund 
to distribute. Increasing the supply of any good, other things 
remaining the same, causes a fall in its price. If the increase 
is so great that the good becomes superabundant, its price will 
be reduced to nothing and it will be free. As regards any 
single branch of production, it is, therefore, clear that increas- 
ing the net product instead of adding to the resulting money 
income, may, if persisted in, wipe it out altogether. Can the 
same be true of an increase in the net product of the collective 
national industries? A little thought as to the reasons for 
the decline in the price of any single good as its supply in- 
creases will convince the reader that it cannot. Exchange 
values and prices are relations among goods. Increase the sup- 
ply of one and the ratio at which it exchanges for other goods 



178 



PRODUCTION AND DISTRIBUTION 



or for money will change to its disadvantage. If, however, 
you increase at the same time the supplies of all goods, in- 
eluding gold, the standard money material, you affect simul- 
taneously both sides of all ratios of exchange and consequently 
the ratios remain as before. Values in use, measured by mar- 
ginal utilities may be lowered, that is, the community may 
have its wants for all kinds of goods more amply gratified. 
Values in exchange and prices will not be affected, since the 
increase in the net product is a general increase embracing 
all the different products of the collective national industries. 
This conclusion may be accepted the more confidently, since 
for obvious reasons the tendency of competition is always to 
direct the factors of production into those industries in which 
prices are rising or remaining constant and away from those 
in which they are falling, or, if conditions are such that 
prices generally show a downward trend, then into gold 
mining until the increased supplies of the standard money 
material restore the balance. Proof that additional land, or 
additional workmen, or additional capital goods will add to 
the composite net product, that is, the net product in all the 
different branches of production, is, therefore, presumptive 
proof that the money income will be correspondingly larger 
and justifies the attempt to trace a connection between the 
addition to the fund to be distributed and the share assigned 
to the factor in production which has caused it. The truth 
of this conclusion will become more evident after the theory 
of money (Chapters XIX.-XXI.) has been mastered. 

§ 100. The second difficulty is to trace the connection be- 
tween the real income for which the money income is ex- 

.„ , changed and the net product. That the two are closely related 
come, Real *= ^ i • i t i 

Income and goes without saying. What men eat, drmk and wear, the 

Net houses they live in, the books they read and all the com- 

Product. modifies and services which gratify their wants are the prod- 
ucts of industry. If it could be shown that the net product 
of any given period and the real incomes of those who receive 
shares of the money income during that period tend to be 
interchangeable, a long step would be taken toward an under- 
standing of economic relations. 

The first circumstance that seems to stand in the way of 



Relation 
Between 
Money In- 



SERVICES OF CONSUMPTION GOODS 179 

such a conclusion is the fact that an important item for which 
money incomes are regularly expended is the rent of houses 
and other durable consumption goods. For house-rent alone, Services of 
as we have seen (Section 49), wage-earners regularly spend Consumers' 
from one-tenth to one-sixth of their incomes. These durable ^oo^s Part 
consumption goods are certainly not as a rule the products " ^^ 
of current industry. Many of them were produced years, even 
decades, earlier. How reconcile this fact with the view that 
the real income and the net product of any period tend to be 
interchangeable? A first step toward such a reconciliation is 
to recogijize that there is no logical basis for the distinction 
which business men usually draw between durable consump- 
tion goods, like houses, and capital goods. Houses produce 
valuable utilities as well as warehouses, if not in exactly the 
same way. So do automobiles, steam yachts, furniture, clothes 
and the many other things in this class. The uses which they 
give off in a year are properly included among the products 
of that year. Making an adequate appropriation from the 
price received for these uses for a replacement, fund, we get 
a net item that should clearly be included in the total money 
income of the year. In paying out money for house-rent, 
therefore, the tenant is exchanging money income for a prod- 
uct which is properly credited to the same period which gives 
rise to the income. 

Including durable consumption goods in our conception of 
capital goods merely transfers the difficulty of tracing a rela- 
tion between the real income of a period and the net product 
of that period to the broader arena of capitalistic production. 
This, as already explained, differs from direct production prin- 
cipally in the longer interval that must elapse between its in- 
ception and its completion. As now organized production is 
a prolonged, serial process. Thus the bread that appears on 
the table to-day was made from flour produced weeks or 
months ago. This flour was itself made from wheat grown 
perhaps a year before. Finally the seed from which this wheat 
sprang was planted months earlier. And what is true of 
bread is more or less true of every commodity that enters 
into consumption. Only services which must be enjoyed, if 
at all, as they are rendered, are consumed as they are pro- 



180 PRODUCTION AND DISTRIBUTION 

duced. It is possible only to guess at the proportion of the 
valuable utilities embodied in the commodities and services 
consumed in an average month which were produced during 
that month, but it is safe to say that not more than one-tenth 
are in this class. Quite nine-tenths are the products of the 
industry of previous months, carried along to the present 
month as a part of the community's capital. Since not more 
than one-tenth of the utilities currently consumed are products 
of current industry, most of the world's workers must be en- 
gaged at any given time upon commodities that will not be 
ready for consumption until some future period. That this 
is the case is at once obvious f ropi a consideration of the limited 
number of occupations concerned with the rendering of serv- 
ices and with applying the final touches to the commodities 
that enter into every-day consumption. Retail dealers, de- 
liverers, cooks, bakers, etc., constitute but a fraction of the 
industrial population of any modern community. 
Real Opposed to the fact that fully nine-tenths of the products 

ncomes ^^ current industry are not in consumable form is the equally 
Drawn from ^ • n ^^ , "-1,1 • • . 

Capital certain tact that practically the entire money income is spent 

Rather for goods that are ready for consumption. Of course, some 
than income is saved and invested, but the great bulk of it, whether 

Directly received by wage-earners, employers or capitalists, is spent, 
and spending means purchasing finished goods immediately 
available for the gratification of wants. Thinking of the 
month again as the productive period, the money returns 
which enterprisers receive in exchange for products, fully 
nine-tenths of which are not yet in consumable form, are 
divided between the replacement fund and the money income 
to which they and others are entitled. As regards the part 
of this money income that constitutes wages, no one will ques- 
tion that nearly all of it is habitually exchanged for consum- 
able goods. Some portion of the money income going to the 
other sharers in distribution may be saved, but the greater 
part of it also will be exchanged for consumable goods. We 
are thus seemingly brought to the conclusion that it is not, 
speaking broadly, the products of their own industry that 
are shared among those who take part in production, but the 
products of past industry. If we think of the products of 



from Net 
Product. 



CONFUSION DUE TO CHANGES 181 

industry as pouring into a reservoir, we must think of real 
income as being drawn out of the reservoir on the other side, 
and as consisting for the most part in any day, week or 
month of different goods from those which during that day, 
week or month have been produced. Since the contents of 
the reservoir is a part of the community's accumulated fund 
of capital, we may formulate our conclusion in the proposition 
that real incomes, the commodities and services for which 
money incomes are exchanged, come for the most part out of 
capital, rather than out of the current product. 

§ 101. Although the combined net product of all of the Confusion 
industries of a country is clearly not identical with the real Caused by 
income to which through the agency of the money income it qj^^^^ 
gives rise, there is the strongest presumption that the two 
are interchangeable. Real income is withdrawn in the form 
of finished commodities and services at the end of the pro- 
ductive process; the net product must be the source from 
which these finished goods are replaced in preparation for the 
next distribution. For, unless the net product did normally 
replace the real income withdrawn, production and distribu- 
tion would not proceed with the order and regularity which 
may be observed on every hand. Dealers' stocks of goods 
would be depleted but they would not be renewed. Manu- 
facturers' shipping departments would be emptied to meet 
current orders but they would not be filled again. The barest 
acquaintance with the orderly way in which modern business 
is carried on proves that these things do not usually occur. 
In fact manufacturing and selling are even more regular and 
continuous than the assumption of a one-month production 
period would imply. Normally production is not carried on 
for a month or longer period before the produce is sold and 
the money received for it distributed. Products are sold every 
day just as they are produced every day, and much thought 
is given by every successful business man to the problem of 
carrying just the surplus stocks that will meet possible extraor- 
dinary demands, but no larger stocks. New finished products 
flow into the shipping department of a well-organized business 
as regularly every day as they flow out of it in sales. At 
other points throughout the plant as partly or completely 



182 PRODUCTION AND DISTRIBUTION 

finished products are advanced a stage, materials or less com- 
pletely finished products are sent forward from the preceding 
stage in a steady stream. Everywhere, if the business is run- 
ning smoothly, there is continuous replacement and renewal. 
But in actual industrial society business does not always 
run smoothly. Crises and depressions occur. Strikes and 
lockouts interrupt production. Crops ripen only at the har- 
vest season and even then are uncertain. Old mines become 
exhausted and have to be abandoned, while new mines are 
constantly being discovered. These and other irregularities are 
so much in evidence that there is danger of being unduly im- 
pressed by their importance and of failing to grasp the great 
underlying influences without which even the irregularities 
cannot be fully understood. To avoid this danger economists 
find it convenient to draw mental pictures of industrial so- 
ciety as it would be if disturbing factors were absent. We 
shall find it helpful to draw such a picture at this point, for 
with its aid the substantial interchangeability of the net prod- 
uct and the real income can be demonstrated and the im- 
portant function which capital performs in bridging over the 
gulf between them made clear. 
Assumption To simplify the task of understanding the complex relations 
of State of q£ actual industrial society let the reader picture to his mind 
_ . a society from which changes are so far as possible eliminated, 

librium. I^^t him imagine that in this hj^pothetical society further im- 
provements in productive processes are for the time being sus- 
pended; that nature continues to assist production without 
any variation from season to season ; that each grade of labor 
is constantly renewed; that population as a whole remains 
stationary; that the fund of capital is neither increased nor 
decreased but kept intact at every point through exact and 
continuous renewal by means of the replacement fund; that 
the wants of consumers do not change ; and, finally, that com- 
petition has perfectly free play. Under these circumstances 
production, distribution and consumption would go on very 
much as they do in actual society, except that in the absence 
of all change, each would be perfectly adjusted to the others. 
Men would, of course, continue to die or to retire from 
business but other men would inherit their tasks and perform 



STATE OF NORMAL EQUILIBRIUM 183 

them in the same way and with the same efficiency as before. 
The birth rate would just balance the death rate. At every 
stage of production there would have to be an exact replace- 
ment from the previous stage of the capital goods destroyed. 
Thus, if the month were the unit production period, the 
month's destruction of tools, machines and other instruments 
of production must be just made good by the month's flow of 
finished capital goods from dealers to the different stages of 
production. The month's output of raw materials must just 
replace the worked-up materials which manufacturers pass on 
each month to traders. These in turn must just balance the 
month's transfers of goods from wholesale dealers to retailers, 
and the last must just offset the month's sales by retailers to 
their customers. 

Under these conditions the net product and the real income Net Product 
of consumable goods would of necessity be exactly equal in and Real 
exchange value and the money income would exchange in- I'^come 

differently for either. This must be the ease, because it is , ' , , 

. . . changeable, 

only on this condition that the exact replacement all along 

the line necessary to the illustration could occur. If we 
describe the situation resulting from the above assumptions 
as that of normal equilibrium, we may conclude that for an 
industrial society brought to the state of normal equilibrium, 
the net product and the real income would be not only sub- 
stantially but exactly interchangeable.* 

Of course, no one of the assumptions upon which the Corre- 
imagined society rests is fully realized in any actual society, ^pondence 
and yet in essentials the picture drawn is also true of society g. . 
as it is. The dominant characteristic of any industrial society 
looked at in its entirety is not change but permanency and 
stability of relations. Men drop out, but others inherit their 
tasks and perform them much as they did themselves. Popula- 
tion is not stationary, but it is so nearly so from year to year 
that the great majority of the children born each day virtually 

* The term " normal " means in this connection merely the usual 
and predominant. From one point of view, progress is just as normal 
as, as it is even more significant than, stagnation. A clear under- 
standing of industrial relations as they would be if society were not 
progressing is, however, a valuable aid to a proper appreciation of even 
progress itself. 



184 PRODUCTION AND DISTRIBUTION 

take the places of persons who have just died. Goods are 
worn out and destroyed, but new goods are being produced in 
a continuous stream, so that the aggregate wealth of society- 
changes little over short periods either as regards its amount 
or the kinds of goods of which it is composed. In the same 
way improvements in methods of production, if all processes 
are considered, follow each other but slowly. Moreover in 
every society no matter how rapidly it is progressing in pop- 
ulation, wealth or the technique of production, economic forces 
are constantly working toward a state of normal equilibrium. 
For these reasons the proposition that the net product and 
the real income are interchangeable applies with but slight 
modification to actual societies. In the United States to-day, 
for example, as in the hypothetical society, the greater part 
of the wealth withdrawn each month from dealers' stocks to 
constitute the real incomes of sharers in distribution is re- 
placed in kind and quantity by the net product of the month's 
industry, in the same way that the water which flows through 
a mill-race from a pond kept at a certain level is replaced 
by the water which flows from the mill stream on the other 
side. As in the latter case we may say that the water which 
propels the mill wheel during any hour is virtually the water 
that flows into the mill pond, so we may say in the former 
that real incomes come virtually from the net products of 
industry. 
Purpose of Tjjg assumption of a state of normal equilibrium is a con- 
ssumption.^gj^-g^^ logical device for disentangling the regular and con- 
tinuous influences which we have called normal and their 
effects from the less regular influences of change and progress 
and the complex situations to which they give rise. In this 
cornection it helps to make clear the fact that, notwithstand- 
ing all of the complications of actual industrial relations, it 
is still true that the net product of industry from day to 
day and week to week tends to be substantially interchange- 
able with the real incomes for which the money incomes de- 
rived from this net product are expended. 
Arithmeti- § 102. An arithmetical illustration may help the reader 
eallllus- ^Q ggg more clearly the relation between the net product and 
the real income. To give definiteness to the problem we wiU 



ASSUMPTIONS MADE 185 

assume that production, from its inception in the creation of 
the utilities embodied in raw materials until its completion 
in the withdrawal of finished goods from the stocks of dealers, 
extends over a period of three years: the first being devoted 
to extractive industries,* the second to manufacturing and the 
third to transportation and trade. Each year thus represents 
a particular stage in the cycle of production and in each stage, 
needless to say, the directing intelligence of enterprisers, land, 
labor and capital cooperate to bring about the productive 
result. To simplify the illustration as much as possible addi- 
tional assumptions may be made. All of the commodities Assump- 
which are to constitute the real wages of the workers will be tionsMade. 
taken to be on hand in the stocks of dealers at the beginning 
of the year and thus to constitute a part of the capital on 
which interest must be earned. Similarly the completed prod- 
ucts of each stage will be taken to be turned over all together 
at the end of the year to constitute the materials on which 
production in the next stage will be engaged during the entire 
year. The extent to which these last assumptions are at 
variance with the actual facts of industrial society will be 
considered later. Since the actual prices received for the 
products of each year do not concern us in this connection we 
shall assume that competition causes all prices to correspond 
exactly with the expenses of production of representative 
firms (see Section 106) and that, consequently, the only profits 
enjoyed are those we have characterized as the wages-of-man- 
agement, as would be the case in the state of normal equi- 
librium. We will also assume that the land and natural 
forces for which rent is paid are self-renewing and self- 
perpetuating, so that the only replacement fund needed is to 
repair and renew worn and destroyed capital goods, and that 
the rent is paid in a lump sum at the end of each year. 
The capital goods used will be in the form either of circulating 
capital, that is, the wages advanced to workers, materials in 
process of production, etc., or fixed capital, that is, buildings, 
tools, machines, etc. Both kinds of circulating capital will 

* This is the term applied to hunting, fishing, stock-raising, farming, 
forestry, mining and quarrying, since they are concerned for the most 
part with "extracting" materials directly from nature. 



186 



PRODUCTION AND DISTRIBUTION 



be completely merged in the product and will, therefore, re- 
quire an annual rate of replacement of 100 per cent. The 
fixed capital will require repair and renewal more gradually 
and for it we will assume an annual replacement rate of ten 
per cent. The current rate of interest applying to all capital 
will be taken to be five per cent. In any such illustration the 
amounts assumed to be spent for rent and wages and to be 
required in the form of fixed capital are, of course, quite 
arbitrary. We have put down $100 in each year as the ex- 
penditure for rent; $1000 in each year as the expenditure 
for wages; and $1000 in each year as the amount of fixed 
capital required. 

Under these circumstances the financial results for the 
three years would work out as follows : 



First Year 



I. Rent 

II. Circulating capital: Wages . 
III. Fixed capital . . . . 

Total capital . . . . 

Price of product 

Second Year 



$1,000 
1,000 



Me'-ged in 

price of product 

$100 

1,000 

100 



I. Rent 

II. Circulating capital: (a) Wages . 

(b) Materials 

III. Fixed capital 



$2,000 Interest 100 
$1,300 

Merged in 

price of product 

$100 

$1,000 1,000 

1,300 1,300 

1,000 100 



Total capital 
Price of product 



Third Year 



I. Rent 

II. Circulating capital: (a) Wages . 
(b) Materials 
III. Fixed capital .... 

Total capital .... 

Price of product 



$3,300 Interest 165 
$2,665 

Merged in 

price of product 

$100 

$1,000 1,000 

2,665 2,665 

1,000 100 

$4,665 Interest 233.25 



$4,098.25 



CONCLUSIONS FROM EXAMPLE 187 

The price of the final product, $4098.25, is seen to sum up Conclusions 
and include the prices of all of the intermediate products — from the 
raw materials worth at the end of the first year $1300 ; form ^^"^P^®- 
and time utilities added to these materials through manu- 
facturing worth at the end of the second year $1365; and 
place, time and possession utilities added through transporta- 
tion and trade worth at the end of the third year $1433.25 — 
just as all of the utilities added at the different stages reappear 
in the desired combination at the end of the final stage. In 
the illustration the years are represented as following one 
another in a series. This serves to bring out the dependence 
of each succeeding stage on the earlier stages for the materials 
with which it is concerned. The indispensable condition to 
serial production is an accumulation of capital in advance of 
the whole productive process. In this example fixed capital 
worth $1000 and subsistence, etc., for wage-earners worth an 
additional $1000, were needed in stage one. The products of 
this stage worth $1300 had to be carried along as capital to 
stage two, where to complete the processes of manufacture 
fixed capital worth $1000 and subsistence, etc., for wage- 
earners worth an additional $1000 were required. Similarly 
in stage three capital worth $2665 in manufactured products, 
fixed capital worth $1000 and subsistence, etc., worth $1000 
were employed during the year. Thus in the aggregate a 
capital of $9665 was required to carry production through 
its three stages and turn out at the end products worth 
$4098.25. Without this capital serial production with all of 
its advantages in output would have been impossible. 

While this large fund of capital was necessary, under the Comparison 
conditions of the illustration, to the carrying of production with Actual 
through its three stages, it must not be concluded that another 
equal fund must be accumulated at the conclusion of these 
three years to begin the same cycle over again. Once provided 
with the needed capital the productive process will supply 
the capital goods required for renewals and replacements. 
The three stages of production described in the illustration 
follow one another in successive years. In actual industrial 
society all three stages, extractive industry, manufacturing 
and transportation and trade are carried on simultaneously. 



188 



PRODUCTION AND DISTRIBUTION 



Eelation 
Between 
Net 

Product, 
Money In- 
come and 
Real 
Income. 



Finished goods are passing from dealers' stocks to purchasers 
at the final stage, at the same instant that manufactured 
products are pouring into dealers' stocks at the end of stage 
two and raw materials are being turned over to manufacturers 
at the end of stage one. This parallel operation of all of 
the different processes of production, possible only because 
the requisite capital is present to keep all the stages supplied 
with the equipment they require all of the time, greatly 
facilitates the renewal and replacement of this capital as it 
is worn or destroyed. Thus the subsistence, etc., needed for 
the wage-earners in stage one is drawn from dealers' stocks 
in stage three, not at the beginning of the year for the whole 
year as we have represented but continuously throughout the 
year as it is required. In the same way new tools and 
machines to replace the worn-out fixed capital at this stage 
are withdrawn from dealers' stocks not all at once but gradu- 
ally as they are needed. Stage two, similarly, draws materials 
from stage one in a continuous stream as it requires them 
and subsistence for its wage-earners and new tools and 
machines to replace its fixed capital from stage three. What 
is necessary is not the accumulation in advance of the pro- 
ductive process of all of the capital that will be needed for 
the whole year but the accumulation of all, or most, of the 
fixed capital that will be needed and of sufficient circulating 
capital to insure the delivery of a continuous flow of sub- 
sistence, materials, etc., at each stage of production so that 
the producing mechanism may operate without hitch or in- 
terruption. 

We are now in a position to appreciate the relation between 
the net product, the money income and the real income. The 
first point to note is that the calculation of the net product 
is a less simple matter than the definition seemed to imply. 
It depends on the point of view from which the productive 
process is analysed. If the viewpoint is that of the enter- 
priser wages will be included along with tools and materials 
as outlays, provision for the replacement of which out of the 
gross product or gross money return must be made before the 
net product or the money income can be calculated. But this 
obviously ignores the consideration that wages are themselves 



GRAPHIC ILLUSTRATION 189 

an important form of money income. Our point of view is 
that of industrial society as a whole. For our purpose only 
the dead instruments and materials worn or destroyed in the 
course of the productive process must be provided for from 
the gross product to determine the net product and only the 
price of these instruments and materials should be deducted 
from the gross money return to determine the money income. 
Applying this rule the money income afforded by the first 
year's production will be seen to be $1200; that of the second, 
$1265 ; and that of the third, $1333.25. Since in the assumed 
state of normal equilibrium these combined money incomes, 
amounting to $3798.25 are all spent for consumable goods, 
this portion of the final product must take the form of con- 
sumable goods, the remaining $300 worth of goods being the 
tools, machines, etc., needed to renew and replace the used-up 
fixed capital. The replacement of the materials used up at 
stages two and three is effected by appropriate deductions 
from the gross money returns of those stages to provide means 
to pay for new stocks of materials received from stages one 
and two. Since all of these stages are carried on simultane- 
ously the withdrawals of real income and of capital goods 
for replacement are constantly balanced by the stream of 
products flowing continuously forward from the inception 
of stage one to the completion of stage three. The net prod- 
uct, the money income and the real income are exactly inter- 
changeable and are being constantly interchanged. 

§ 103. Since the relations we are trying to picture are Graphic 
between flows of goods rather than fixed funds of goods, ill^stra- 
certain of their aspects may be more easily presented in 
graphic than in arithmetical form. The figure on the next page 
represents capitalistic production in a self-contained indus- 
trial society brought to a state of normal equilibrium. 
In it are represented in successive and connected com- Expiana- 
partments the three great branches of production : the ^io^- 
extractive industries, manufacturing, and transportation and 
trade. Raw materials, the products of the extractive indus- 
tries, flow through from left to right, being enriched as they 
pass along by the addition of form, place, time and possession 
utilities. On leaving the hands of dealers, they are separated 



190 



PRODUCTION AND DISTRIBUTION 



into two great streams, one, the replacement fund, which 
flows back to repair and renew capital goods worn or de- 
stroyed in the process of production, the other, consumption 
goods, which begin immediately to gratify wants. The con- 
sumption goods stream is again subdivided, one branch con- 
veying the second and subordinate replacement fund needed 



Durable Consumption Goods »— » 




Fig. 7. 



to repair and renew the durable consumption goods whose 
presence is indicated at the top of the diagram and which 
give off a continuous stream of utilities to mingle with those 
afforded by transient consumption goods, the other and larger 
branch into which the main consumption goods stream is 
divided. The net product represented in this diagram con- 
sists in part of raw materials, in part of manufactured goods, 
finished and unfinished, and in part of the utilities subse- 
quently added at the stage " transportation and trade." Only 
a very limited part is sufficiently advanced to be flowing out 
with the stream of consumption goods to minister directly 
to human wants. On the other hand it is from this stream 
of consumption goods that the entire real income for which 
the money income is exchanged is drawn. Although the iden- 
tical goods constituting the real income are thus for the most 
part other than the goods constituting the net product, the 
latter consists of exactly similar utilities quantitatively and 



IMPORTANCE OF PRICES 191 

qualitatively as the former. At each point the streams of 
goods flow on evenly and unbrokenly so that the " transient 
consumption goods " that are allowed to escape, and which 
constitute the real income, are exactly replaced by the goods 
included in the net product. The diagram thus represents 
movement without change. It depicts the circulation of 
goods that is going on in actual industrial society with the 
elements of change and monopoly eliminated. 

§ 104. In making use of the assumption that industrial 
society is brought to the state of normal equilibrium so that Complica- 
we may study it more easily, we must be clearly conscious ^^ 

of what we are taking for granted and what problems are industrial 
therefore left over for independent explanation. In the first society, 
place we are excluding all monopolistic tendencies. These in 
actual industrial society play a highly important role. In the 
following chapters we devote a good deal of attention to the 
problems to which they give rise (Chapters XIII. and XXIII.- 
XXV.). Second, in excluding changes and assuming that 
competition has worked out its full effects, we ignore the 
important share of income that arises in actual industrial 
society in consequence of changes and progress. This makes 
necessary a special chapter on this share (Chapter XII.). 
Third, we take for granted the existing supplies of land and 
natural forces, workers and capital goods and consider only 
how, given these supplies, free competition tends to apportion 
them among different industries and to distribute among them 
their respective shares of the net product, money income or 
real income — since, under the assumed conditions, these items 
are interchangeable. This leaves for independent considera- 
tion the whole problem of the extension of man's utilization 
of land and natural forces, and the even more difficult ques- 
tions as to the causes which control the growth of population 
and the increase of capital (Chapter XVIII.). Until these 
questions are dealt with our discussion of distribution must 
remain incomplete. 

§ 105. Whether or no the assumption of a condition of Importance 
normal equilibrium be employed, the logical starting point ofI'"ces. 
for a discussion of distribution is the causes which determine 
yalues in exchange and prices, since the aggregate price re- 



192 PRODUCTION AND DISTRIBUTION 

ceived for the product constitutes the gross money returns 
of a business and this less the replacement fund constitutes 
the money income. As explained in Chapter VII., the prices 
at which goods sell correspond closely to the money equiva- 
lents of their marginal utilities, or marginal uses in the case 
of producers' goods, to marginal buyers, that is, to the buyers 
who are just induced to purchase a part of the available 
supply. 
Influence of If the available supply be small the prices will be relatively 
Marginal high, marginal buyers being those to whom the goods have 
high marginal utilities or uses, or who have large incomes 
to spend. The larger the supply the lower the price must 
be, since less eager or less wealthy buyers must be appealed 
to to effect the sale of the larger stock. Under all circum- 
stances, however, one determinant of the prices of goods is 
the money equivalent of their marginal utilities or uses to 
marginal buyers. The money income derived from a business, 
determined, as already explained, by the prices received for 
the products, is, therefore, determined in turn by the mar- 
ginal utilities or uses, valued in money, of these products 
to marginal buyers. In other words, one of the first prin- 
ciples in regard to distribution to be remembered is that the 
money income to be distributed is determined by the want or 
use scales of buyers coupled with the money or purchasing 
power w'hich they happen to command. As this money or 
purchasing power in the hands of buyers is itself for 
the most part money income previously received, produc- 
tion, distribution and consumption mutually determine one 
another. 
Influence of But this is only one side of the matter. On the side of 
Expenses of production, except when monopoly intervenes and supplies 
■ are artificially controlled, the stress of competition causes the 
supplies of goods to be increased (or decreased) until their 
prices correspond to the expenses of production of marginal 
sellers. These expenses are not, however, independent of the 
prices they help to determine. They are themselves derived 
from these prices. But they serve to equalize prices by acting 
as regulators of the supplies of competitively produced goods. 
For example, the wages of labor, which are an important item 



REPRESENTATIVE FIRMS 193 

among the expenses of production, are derived from the 
prices paid for the goods which labor helps to produce. 
Labor in and for itself is not valuable. It is only valuable 
because through it valuable goods are produced. Labor which 
did not, or was not expected to, result in valuable goods 
would be worth nothing. But since normally labor does 
result in valuable product, a day's labor comes to be recog- 
nized as commanding a certain wage. This current rate of 
wages, itself derived from the prices received for the products 
of labor, is an item of expense to any one who wishes to 
start a new branch of production. Unless the expected prod- 
ucts promise prices sufficient to cover this and other items 
of expense the new line of production will not be undertaken. 
Thus the current rate of wages stands as a barrier to the 
extension of production in this direction or in that, and in 
this way controls the supplies of goods that are produced. 
It serves to equalize supplies by checking production whenever 
it threatens to be unprofitable. The tendency thus is for 
production to be extended in each direction up to the limit 
set by the expenses of production to marginal producers. 
In this way the expenses of production figure as an important 
secondary factor in the distributive process in connection with 
competitively produced goods. 

In an industrial society brought to the state of normal 
equilibrium, production will be perfectly regulated by com- 
petition so that each branch of production will have its exact 
proportion of the available labor force and other factors in 
production. The wages received by any given grade of work- 
men will be the same in different branches of production, 
because prices and the expenses of production will be exactly 
adjusted to each other. 

§ 106. The expenses of producing commodities of each sort Representa- 

are different for different firms. For new firms just estab- tive Firms 

lishing business connections and not yet ready to produce and Normal 

Pi*ic6S 
on the scale that experience has shown to be most economical, 

expenses are high. They are high also for old firms that 

are overgrown or for some other reason are falling into decay. 

They are lowest for those firms which have attained just the 

size necessary for most economical production and which are 



194 PRODUCTION AND DISTRIBUTION 

managed with greatest ability.* Among such firms those 
managed with average ability may conveniently be designated 
as representative firms. These firms are the marginal sellers 
of competitively produced goods whose competition serves to 
keep prices from deviating very far from the norms fixed 
by their expenses of production. The expenses of production 
of representative firms may, for this reason, be described as 
the normal expenses of production and the prices correspond- 
ing to them as the normal prices, about which, as already 
stated, market prices tend to oscillate. The market price 
cannot fall for any length of time below the standard fixed 
by the expenses of production to representative firms, for 
under such circumstances they suffer losses and proceed to 
curtail production until demand for the diminishing supply 
of the commodity brings its price back to a remunerative level. 
The market price cannot rise for any length of time above 
them because then all representative firms will be making 
an extra profit and some will seek to secure more of it by 
enlarging the volume of their production. Supply will be 
increased and this in time will bring the price down to the 
old level or force it below it. Or, looking at other effects, 
as the price falls below the expenses of production to repre- 
sentative firms decaying firms are forced into bankruptcy and 
new firms are so discouraged as to withdraw from the busi- 
ness, and in these ways supply is lessened. On the other hand, 
a rising price not only encourages tottering firms to keep up 
the struggle but induces new firms to enlarge the capacity of 
their plants for the double purpose of selling more at the 
high price and of realizing the economies of large-scale pro- 
duction. In these ways the supply is increased and the price 
is brought back to the normal. 

* Nothing is said about differences in expense due to differences in 
the qualities of land or natural power used because these are fully 
covered by the item rent. For example, if a farmer, cultivating all of 
his land in the same way, produces on some acres larger crops than 
on others year after year, the differences must be ascribed to differences 
in the land, and a proportionately larger allowance for rent must be 
charged against the better acres than against the poorer. This extra 
rent may in practice be merged in the gross rent charged for the 
whole farm, but it is no less important in determining how large thia 
gross rent should be. 



SHARES IN DISTRIBUTION 195 

It must be carefully noted that the above reasoning assumes 
not only active competition but the absence of change as re- 
gards the expenses of production per unit of product which 
representative firms incur. If conditions are changing so that 
these expenses vary constantly even the most persistent com- 
petition may fail to cause the price of the product to corre- 
spond accurately to the normal expenses of production. It 
would tend always toward such correspondence, but it might 
never attain to it. In actual practice market prices seldom 
do conform exactly to normal prices, and no explanation of 
distribution is complete which fails to make full allowance for 
discrepancies between the two. By reference to normal prices, 
as standards, however, the circumstances determining the 
shares in distribution can be quite as logically and more easily 
explained, than they could be if the tendency of competition 
to bring market prices to the normal were ignored. The prom- 
inence given to normal prices in these pages is thus a con- 
venient logical device for simplifying what would otherwise 
be bewilderingly complex. 

Normal prices for competitively produced goods just cover The Shares 
the expenses of their production — the allowance for the re- *" Distribu- 
placement of capital goods, rent, interest and wages. As a ^°^" 
usual thing these four items of expense are incurred by the 
enterpriser before production is concluded and before he 
knows what prices he is going to get for his products. He 
buys his materials, tools, machinery and other capital goods 
at current prices, he borrows capital to pay for them, and 
perhaps to pay wages, at current rates, he hires workmen 
and leases land on the terms fixed for him by general market 
conditions rather than on his own terms, and all of these 
arrangements are entered into before the product is ready 
for sale. It is in this contracting to pay the expenses of 
production before the product is ready for sale or the price 
to be received for it known, that the principal risks of business, 
which it is the enterpriser's function to incur, consist. When 
prices are normal the representative firm receives from its 
sales just enough to cover its expenses of production including 
an adequate wages-of-management. Any deviation from the 
normal means extra profit or unexpected loss to the enterpriser 



tion. 



196 PRODUCTION AND DISTRIBUTION 

or to stockholders, who are the risk-takers in corporate under- 
takings. 
Competitive The market prices of goods may differ from the normal 
an Monop- pj.j(.gg corresponding to the normal expenses of producing 
them, either because conditions are changing and competition 
has not yet adjusted supply to demand at the new normal 
price level, or because competition is itself absent and monop- 
oly stands as a barrier to such an adjustment. In the former 
case we have to do with what we may call a competitive profit 
(or loss) in the latter with monopoly profit. 
The Law of § 107. From the point of view of production rent, wages 
Competitive ^^^^ interest are expenses while competitive and monopoly 
profits are surpluses due to deviations of market prices from 
the normal. From the point of view of distribution all five 
are shares into which the money income derived from a 
country's industries, that is, the gross money return less 
the deduction required to replace and maintain the fund of 
capital, is divided. It is the task of the theory of distribution 
to explain what causes, at last analysis, determine the size 
of these different shares. In the following pages we have 
attempted to prove the thesis that competition tends to secure 
for each factor in production a share of the money income 
corresponding to what it itself produces. Every circumstance 
Avhich causes market to diverge from normal prices interferes 
with this result and occasions profit or loss to enterprisers 
above or below their proper wages-of-management. The chap- 
ters on Competitive Profits and on Monopoly Profits dis- 
cuss the circumstances that may cause such divergence and 
the shares of income to which they give rise. The chapters 
which follow on Rent, Wages and Interest attempt to show 
that each tends to be the share of the normal price correspond- 
ing to what the factor concerned contributes to production. 
Finally the concluding chapters on Value and Distribution 
recapitulate the explanation in more general terms and add 
the last link in the chain of reasoning by indicating the causes 
that control the supplies of workmen and of capital goods. 

An explanation of the causes that determine the shares into 
which the net product is divided is by no means a complete 
account of the influences which make some men rich and 



CONCLUSION 197 

others poor. There are a great many circumstances that affect 
the distribution of wealth that are uneconomic in character. 
For example, no one factor is more potent in deciding that 
some shall be rich while others are poor than the inheritance 
of property. On this topic the economist should have some- 
thing to say, but it is said more appropriately in connection 
with the discussion of the justification of the institution of 
private property itself and of inheritance taxes (Sections 290 
and 291) than with the theory of distribution. In the same 
way the philanthropies of public-spirited citizens in endowing 
art galleries and other institutions for public enjoyment and 
instruction and the intelligent expenditures of municipalities 
in supplying free schools, playgrounds and parks, contribute 
important elements to the real incomes of the citizens of every 
community, but these contributions are not subject to eco- 
nomic law. The theory of distribution is necessarily limited 
to the division of the money income among those who on one 
ground or another have an economic claim. It must be sup- 
plemented by a study of many other factors to furnish a 
complete understanding of the causes of wealth and poverty. 

REFERENCES FOR COLLATERAL READING 

*Clark, Essentials of Economic Theory, Chaps. V. and VII.; *Fetter, 
Principles of Economics, Chaps. VI., XXX., XLII. and XLIII.; *Mar- 
shall, Principles of Economics, Book VI., Chaps. I. and II. j *Carver, 
Distribution of Wealth, Chap. III. 



CHAPTER XII 
DISTRIBUTION: COMPETITIVE PROFITS 

§ 108. Competitive profits (or losses) arise in consequence 
of deviations of market from normal prices. We must now 
inquire into the causes of such deviations. As every business 
man knows, the conditions under which he must carry on his 
business are largely determined for him rather than by him. 
Knowledge of the best ways of producing things has become 
common property, and for the most part he must employ 
methods which are equally open to his competitors. More- 
over there are current rates for the different productive fac- 
tors and usually he must pay these or find himself unable 
to command the land, workmen or capital goods he requires. 
But notwithstanding the limiting influence of conditions, there 
is always in progressive communities a debatable margin 
where the intelligence, originality and daring of the enter- 
priser have full scope. He is free to determine what goods 
he shall produce, what quantity he shall produce and, to some 
extent, by what methods he shall produce. 

At the debatable margin the enterpriser exercises what we 
may conveniently call his power of substitution. The sub- 
stitutions open to him are of two kinds. First, there are 
substitute uses to which the different factors of production 
may be put. Pieces of land may be used for different crops 
or building sites, workers may be employed at different tasks, 
and capital goods, except those that are highly specialized, 
may be made to aid production in different ways. In general 
enterprisers tend to devote each particular factor to that use 
in which it affords the largest return. Second, there are sub- 
stitute combinations of the factors of production that may 
be made for the accomplishment of the same productive pur- 
pose. For example, dirt may be moved by many men and 
little capital in the form of hand shovels or by few men 

198 



CAUSES OF COMPETITIVE PROFITS 199 

and much capital in the form of steam shovels. Shoes may 
be made largely by hand or largely by machinery. A given 
crop may be raised on one piece of land without capital in 
the form of special fertilizers or on another with fertilizers. 
In deciding between these and alternative combinations en- 
terprisers tend to choose the ones that are cheapest in the 
given situations. 

If all changes were suspended and monopoly did not inter- 
vene, enterprisers would use their power of substitution until 
each factor was assigned to that branch of production in which 
it afforded the largest return and until in each branch of 
production just that combination of factors was made which 
was found to be most economical under the given conditions. 
As a result industrial society would be brought to the state 
of normal equilibrium. All prices would be stable ; produc- 
tion, distribution and consumption would follow one another 
with undeviating regularity, and the profits of enterprisers 
would just cover their wages-of-management. In actual in- 
dustrial society, far from being suspended, changes are of fre- 
quent occurrence, and it is because of them that competitive Definition 
profits, that is, profits in excess of the wages-of-manage'ment of Competi- 
not due to some monopolistic advantage, arise. ^^® Profits. 

The most important changes that commonly occur, and. Their 
therefore, the principal causes of competitive profits are: Causes: 
(1) price fluctuations, which may be confined to particular 
commodities or general; (2) the introduction of novelties; 
(3) improvements in methods of production; (4) variations 
in climatic or other natural conditions; (5) the exploitation 
of new lands and natural resources, and (6) modifications in 
the current rates of remuneration of other factors in produc- 
tion. Each one of these causes merits separate consideration. 

§ 109. That fluctuations in the prices of particular com- Fluctna- 
modities are one of the most common causes of proflts is a tionsin^ 
fact familiar to every business man. In making their calcula- 
tions for the future enterprisers estimate the prices they will 
have to pay for the materials, etc., which they must use and 
the prices they will receive for their products. If materials 
become cheaper or products dearer after they are embarked 
on their undertakings their profits will be larger than was 



200 



COMPETITIVE PROFITS 



Means of 
limiting 
Fluctua- 
tions. 



Dealings in 
Futures. 



expected. Dearer materials and products commanding lower 
prices, on the otHer hand, will cause a miscarriage of their 
plans and inflict loss upon them. 

Conservative enterprisers try to prevent adverse price fluc- 
tuations by a variety of expedients, ranging all the way from 
mere verbal understandings among competitors to monopolis- 
tic combinations. Mere verbal understandings, unless supple- 
mented by some efi^ective means of controlling the volume of 
goods produced, serve to lessen the frequency of price fluctua- 
tions but not their extent. The rise or fall in price which 
in the absence of any agreement results from a number of 
slight modifications, is made, under the system of agreements, 
at one bound as soon as the agreement lapses or is broken 
and free play is again given to the pent-up forces of com- 
petition. Notwithstanding this disadvantage enterprisers seem 
to find even temporary stability preferable to the constant 
oscillations of a freely competitive market, and price under- 
standings among competitors, ranging from the familiar pools 
of the stock market to agreements among producers of mate- 
rials, such as coal and iron ore, and of agricultural products, 
such as fruit, are becoming more and more common phe- 
nomena. 

Another expedient for minimizing price fluctuations is deal- 
ing in " futures." Enterprisers who wish to eliminate so 
far as possible the element of uncertainty from their busi- 
nesses, contract ahead both for the materials they are to use 
and for the sale of their products. This practice has become 
especially marked in the building trades and in connection 
with different branches of iron and steel production. Build- 
ing contractors, for example, before making bids on the 
erection of structures, secure options at certain prices for 
the delivery of the materials they will require. They then 
make their estimates with full knowledge in regard to the 
cost of these materials. If their bids are accepted the only 
uncertainties involved in the venture attach to the accuracy 
of their estimates of the quantities of materials required and 
of the expense for labor. Similarly in the iron and steel 
business it is customary for manufacturers to contract ahead 
for materials at the same time that they book orders for 



DEALINGS IN FUTURES 201 

their products months in advance. The tendency of dealings 
in futures is to assign to a particular class, namely, to those 
who have a special talent and taste for forecasting price vari- 
ations, the task of estimating the future conditions of demand 
and supply in each market and naming in advance the prices 
which competition will tend to establish. The more accurately 
this class makes its calculations, the more perfectly will its 
operations cause the present price of each good to adjust itself 
to the price to be established in the future. The best illustra- 
tion of this in the United States is furnished by transactions 
on the produce exchanges. 

§ 110. Produce exchanges are now found in nearly all large Illustrated 
cities in Western countries and in them contracts for the byRefer- 
delivery of the great staples, corn, wheat, cotton, pork, etc., ^^ ° 
are made three, six and even nine months in advance. Thus 
in the autumn, after the crops have been harvested, wheat is 
regularly dealt in in the United States for December, May and 
July delivery. The wheat available for May delivery has 
already been harvested, so its amount can be determined with 
a fair degree of accuracy. Between the end of May and 
the end of July new wheat will find its way to the market, 
and this is a factor to be reckoned with. Figuring on these 
data and any others that they can secure, wheat operators 
make their estimates in regard to probable price movements. 
They decide in their own minds what prices will prevail in 
May and July and buy or sell accordingly. Suppose that 
an influential group of operators accurately foresees that a 
much higher price must prevail in May than prevails in 
December. Their course will be to buy wheat for May de- 
livery and to continue to buy it so long as there is any margin 
between the price they anticipate and the price at which others 
are willing to contract to deliver it. But all wheat stored in 
elevators in December is potentially wheat for May delivery. 
It is a simple calculation to subtract the fee for storage and 
insurance and the interest on the capital invested to determine 
what price such wheat should command in December to cor- 
respond with a given May price. As the May price rises the 
December price must, in the absence of some extraordinary 
condition, rise also. It follows that by forecasting accurately 



202 COMPETITIVE PROFITS 

the higher price to prevail five months hence the operators 
help to advance the present price of wheat. As the price rises 
present consumption will be curtailed somewhat and more 
wheat will be set aside for future use. This additional wheat 
will figure as part of the May supply and should lead the 
operators referred to to reduce somewhat their estimate of 
the May price. The lower price for wheat for future delivery 
will be reflected back to present, or " cash," wheat and will 
depress its price. In this way by means of calculations which 
constantly require revision operators in futures tend to adjust 
the present to the future price and to narrow the range of 
price oscillations. 
Service of Some of the shrewdest and best-informed men in the United 
Speculators, g^^tes find it profitable to devote much of their time to study- 
ing the conditions of supply and demand with reference to 
each of the great staple products. They make mistakes in their 
calculations, of course, and very often buy or sell for future 
delivery at prices widely different from those which actually 
prevail when the future time arrives. But they are less apt 
to make mistakes than men who are without their special 
talent and training, and on the whole their operations have a 
decidedly steadying influence on the prices of the commodities 
in which they deal. Even more important is the service they 
render in assuming risks in regard to price changes which 
otherwise all enterprisers would have to share and in making 
it possible for conservative producers to know just what prices 
they will have to pay for needed materials months before they 
have occasion to use them. 
Speculation Not a little criticism has been directed against dealings in 
i>. Gam- futures on the ground that such transactions are highly 
^^^' speculative. This cannot be denied, but it must be remem- 

bered that it is not merely the dealings in futures, but the 
future itself, that is uncertain. If such dealings can be con- 
fined to the men most competent to make accurate predictions, 
their tendency will clearly be to lessen the uncertainties of 
business. The operations of such men prepare the whole busi- 
ness community for changes that are inevitable, long before 
less observing people see any reason for them. Unfortunately 
the question of the social expediency of dealings in futures is 



EFFECT OF RISING PRICES 203 

mixed up with the wider question of the expediency of stock 
and commodity speculation as it is now carried on in the 
financial centers of the country. It is notorious that this spec- 
ulation is not confined to men who make it a business and are 
trained for it in the hard school of experience, but that it is 
also indulged in intermittently by a great army of men and 
women whose only qualifications are a taste for gambling and 
the consciousness of having money to play with. To the extent 
that these uninformed speculators accept the leadership of 
men of sound judgment and wide experience, their presence 
simply increases the influence which such men can bring to 
bear when they deem imminent a change in prices. Too often, 
however, the mob follows after some false prophet and makes 
him more of a power for evil than he could be if he had only 
his own wealth to misdirect, or is deceived by some sagacious 
but unscrupulous operator who circulates false reports de- 
signed to cheapen what he wants to buy or to enhance in price 
the things he wants to sell. In either case its influence is 
altogether pernicious. How to confine speculation to those 
who have aptitude and training for it and to discourage stock 
and commodity gambling is one of the important practical 
economic problems of the day. 

§ 111. In addition to oscillations in the market prices of General 
particular articles, there are general price movements which I'nce Move- 
affect all business. When money prices generally are rising 
all enterprisers are in the happy situation of receiving more 
for their goods than they expected. They have paid or agreed 
to pay for materials and factors of production prices and rates 
adjusted to lower price conditions. Any increase in the prices ^^^c* ^^ 
they obtain for their products affords an extra or competitive ^^.^^^^ 
profit. The usual effect of such a situation is to stimulate 
enterprise. Every one in business for himself is making money 
and all but the most conservative wish to enlarge the volume 
of their businesses so that they may make more. Enterprisers 
eagerly compete with one another for control over the factors 
of production, and by this competition rents and wage and 
interest rates are advanced until prosperity appears to be 
general. To illustrate, suppose the different branches of pro- 
duction are represented by the letters A, B, C, D, etc. In all 



204 COMPETITIVE PROFITS 

these industries profits above the wages-of-management are 
being received. Enterprisers in industry A are encouraged 
to enlarge the producing capacities of their plants and to enter 
the market as hirers of labor and borrowers of capital. But 
the number of workmen and the supply of capital goods are 
not to be increased at will. To employ more labor and capital 
at A means normally to draw them away from B, C and D, 
and this can be done only by offering higher wages and higher 
rates of interest. But at B, C and D, there are similar in- 
ducements to enlarge production. Rather than lose workmen 
or capital goods, enterprisers in these industries will offer 
still higher wages and interest. This competition will continue 
so long as there is any extra profit in any line of competitive 
business to induce it. Unless prices continue to advance to 
ever higher levels the rising expenses of production will pres- 
ently cut down the margin of profit until it again amounts 
only to the wages-of-management to which enterprisers are 
entitled. Such bursts of prosperity, if unaccompanied by an 
actual increase in the net product of goods, benefit enter- 
prisers at the expense of the other sharers in distribution, 
whose money incomes increase less promptly than the prices 
of the goods they consume. As a rule, however, one effect of 
rising prices is to furnish more active employment for all of 
the factors in production and to cause a correspondingly en- 
larged output of goods. In time this increased volume of 
goods will be available for consumption and then the pros- 
perity will begin to have a solid basis in the increased well- 
being of all classes in the community. 
Of Falling A period of falling prices affects industrial relations in an 
Prices. exactly opposite way. Instead of receiving profits in excess 

of their wages-of-management, enterprisers now experience 
losses. To reduce these so far as possible, they tend to reduce 
the volume of goods which they produce and to curtail the 
expenses of production. Either by discharging workmen and 
failing to renew capital as capital goods are worn out, or by 
cutting down rents, wages and interest rates, enterprisers 
compel other classes to share their losses with them. Unless 
the fall in prices continues, it will not be long before the ex- 
penses of production are sealed down by these measures to a 



PROFITS FROM INVENTIONS 205 

point which again permits enterprisers to enjoy wages-of- 
management commensurate with their abilities. In this case 
the depression, in the sense of diminished well-being, will be 
merely apparent until it causes an actual curtailment of the 
net product. During the short interval that business is con- 
tinued on the same scale in the hope that the drop in prices 
will prove to be only temporary, what enterprisers lose will 
be gained by other sharers in distribution, whose money in- 
comes now mean larger command over consumable goods. 

If space permitted abundant proof of the truth of the above 
description might be cited from the industrial history of the 
United States. The most serious industrial depression which 
the country has experienced, that of the years 1893 to 1897, 
was the culmination of a long period of falling prices. On 
the other hand, the remarkable prosperity which the country 
enjoyed from 1897 to 1907, almost without interruption, was 
closely connected with the rise of prices in that period. These 
general price movements receive further consideration in con- 
nection with the subjects of Money and Credit (Chapters 
XIX.-XXL). 

§ 112. Enterprisers who discover, invent or make available Profits from 
new and more economical means of want gratification are Inventions, 
among the greatest benefactors of the race. It is through 
their efforts that the consumption of a people gradually ad- 
justs itself to the productive capacities of the environment. 
Examples of such innovations are legion. Of late years in 
the United States dozens of varieties of cereal foods have been 
invented, which preserve the nutritious elements in the grains 
more fully than the white wheat flour which they serve in a 
measure to supplant. In the domain of transportation, bicycles 
and trolley cars have already largely superseded horses, and 
they in turn are beginning to be supplemented, if not super- 
seded, by automobiles and aeroplanes. Other recent inven- 
tions of far-reaching importance are the telephone, the lino- 
type and the typewriter. In connection with each of these 
innovations and thousands of others introduced during the 
last thirty years, large profits have been made either by the 
inventors themselves or by the enterprisers who have made 
the inventions commercially successful. 



206 COMPETITIVE PROFITS 

In estimating the extent of these profits to enterprisers as 
a whole two substantial deductions must be made. In the 
first place few if any new goods are offered for sale which 
do not attract purchasers from other goods. Even novelties 
which do not directly supersede other goods previously used 
for the same purpose, cause substitutions which are detri- 
mental to the interests of other enterprisers. Thus the in- 
troduction of the bicycle is said to have interfered with the 
business of watch manufacturers in the United States. In 
a similar way the introduction of the trolley car led to the 
shutting down of more than one horseshoe-nail factory. From 
the large profits of enterprisers who produce and sell success- 
ful novelties must be deducted the losses of enterprisers whose 
businesses suffer because novelties are put on the market. 
The second deduction is for losses incurred by inventors and 
enterprisers who try to make a success of novelties which are 
not appreciated by the consuming public. Millions of dollars 
are spent every year in the promotion of discoveries and in- 
ventions which are complete failures from the business stand- 
point. In a country like the United States, where enterprisers 
are willing to assume large risks in the hope of large gains, 
it is not at all unlikely that more is lost every year in the effort 
to find a market for unsuccessful novelties than is made in 
connection with those which succeed. The net profit to en- 
terprisers collectively from the production of novelties is, for 
these reasons, smaller than most people imagine. 
Profits from §113. Quite as conspicuous in a progressive country as 
Improved profits from novelties are profits from improved methods of 
production. Every enterpriser is constantly on the alert to 
improve his methods of production and in this way to reduce 
his expenses. Consider, for example, the situation of farmers. 
If they are to make more than mere wages-of-management 
they must improve on current methods of cultivation. By 
treating the land in a different way, using new fertilizers, 
organizing their labor force better or buying superior kinds 
of agricultural machinery with their capital, they may accom- 
plish this result. As their expenses of production are re- 
duced, a larger margin is left as an extra profit or reward 
for their enterprise. But such improvements soon become 



CHANGING NATURAL CONDITIONS 207 

matters of common knowledge and common practice. Other 
farmers imitate them, and in time they become the methods 
of representative farmers generally, whose expenses have a 
determining influence on prices. The extra profit which was 
for a while enjoyed disappears either because prices are low- 
ered or because wages, interest, etc., are raised or because 
both changes cooperate in adjusting prices again to the ex- 
penses of production. As for farmers, so for manufacturers 
and enterprisers in other fields, new methods of production 
are an important, if not the most important, source of com- 
petitive profits. 

As the above analysis suggests, profits, which are not 
monopoly profits, are soon overtaken and eliminated by com- 
petition. If improvements were to cease profits from this 
source would soon cease also. In progressive communities 
they continue to be an important element in the wealth annu- 
ally divided among the sharers in distribution because im- 
provements follow one another so swiftly that for every extra 
profit that is cut off by competition other extra profits due 
to more recent innovations are substituted. 

The same process which cuts down extra profits as the 
new methods upon which they depend are more and more 
generally used, inflicts loss on enterprisers who have not 
the intelligence or courage to adopt them. Their expenses 
of production remain stationary and in consequence they 
incur losses as the competition of progressive enterprisers 
forces prices down to the new cost level. From this it follows 
that the extra profits of the progressive are usually offset 
before they disappear by losses on the part of the plodding 
and unprogressive. It is for this reason that business failures 
are more common in the most progressive and on the whole 
prosperous countries than in those where old methods are 
adhered to and innovations are frowned upon. In the former 
competition is more strenuous and the relatively unfit are 
more promptly eliminated. 

§ 114. All industries which depend upon climate, rainfall, ^^0**8 and 
the direction and velocity of the winds or other variable mani- ^ . 
festations of nature show irregular returns from year to year, Natural 
and these irregularities count as profits or losses to enter- Conditions. 



208 COMPETITIVE PROFITS 

prisers. The variable profits of the farmer from this cause 
are familiar to every one. He invests capital in the cultiva- 
tion of his land, paying rent, wages and interest at rates de- 
termined by general market conditions. In making his cal- 
culations he assumes that he will realize at least an average 
crop. If it prove to be a good year the crop will be larger 
than the average and he will receive for it enough to cover 
the expenses of production and to leave a comfortable margin 
for profit. In a poor year, on the contrary, he may not only 
make less than his proper wages-of -management, but even lose 
some of his capital. Similarly dependent upon nature are 
cattle raisers, hunters, fishermen, navigators and many others. 
In the case of each the variability of nature appears as a 
perennial cause of profits and losses. 

There is every indication that progress in the technique 
of production is gradually lessening man's dependence upon 
nature's moods even in the extractive industries. In farming 
increased ability to foresee weather changes, artificial irriga- 
tion and a host of other improvements enable the cultivator 
to surmount natural difficulties which would at one time have 
been fatal to success. In water navigation even greater ad- 
vances have been made, since steam vessels are now well-nigh 
indifferent to all but the severest storms. This progress will 
doubtless continue, but for many generations the industries 
which at some points depend upon variable nature will show 
profits or losses as natural conditions are favorable or the 
reverse. 

Side by side with the progress made in counteracting un- 
favorable natural conditions, there has been a development 
of the business of insurance, by means of which losses due to 
accidental causes which used to fall with crushing force on 
the individuals affected are borne by whole groups of indi- 
viduals. Insurance thus substitutes for the uncertain prospect 
of profit or loss the certainty of somewhat higher expenses of 
production. If it could be developed far enough, profits and 
losses due to the irregularities of nature might be entirely 
eliminated, so far as the individual enterpriser is concerned. 
Profits from § 115. In a comparatively new country like the United 
New land, g^^^tes an important source of profit is the exploitation of 



PROFITS FROM NEW LAND 209 

virgin land and new mineral and other natural resources. 
As these resources are opened up and their value is demon- 
strated the incomes to which they give rise become subject 
more and more to the principles determining rent. During 
the early stages of exploitation, however, they are too irreg- 
ular and uncertain to be classified as anything else than profits 
to the enterprisers who devote time and means to their devel- 
opment. 

Profits from this source in a progressive country are sure 
to exceed largely losses due to misdirected investments. At 
the same time it is a debatable question whether in some highly 
speculative ventures concerned with the exploitation of new 
resources, such as gold mining, more wealth has not been 
wasted in the fruitless attempt to develop paying mines where 
nature has created none, than has been returned in profits and 
rents to the fortunate enterprisers who have made rich strikes. 
There is a fascination about searching for mineral wealth, 
and especially for gold, that attracts men and capital out of 
proportion to the likelihood of success in such enterprises, 
and though it may not be true as sometimes alleged that every 
pound of gold in existence has cost on the average more than 
it is worth, this certainly approximates the truth. 

The large element of chance that figures in the determina- 
tion of profits from the development of new regions, makes 
economic desert of less moment here than in connection with 
other species of profit. This is particularly triie in connection 
with the mining industry, which presents numerous examples 
of able men toiling through their whole lives for a scanty and 
precarious subsistence, while others, having neither ability nor 
training, acquire great wealth. There can be no question that 
it would be to the advantage of industrial society, if the 
returns to enterprisers in these industries could be equalized 
without lessening the motives which encourage their activity 
and enterprise. Society could hardly undertake to share the 
losses of those who make unwise investments, as this would 
put a premium on folly, but it has been argued that society 
may properly share the profits of those whose ventures are 
successful. A possible way of realizing to some extent this 
ideal in the United States would be to substitute for the policy 



210 COMPETITIVE PROFITS 

of selling the mineral lands still belonging to the government 
the policy of leasing them on a royalty basis, as is very com- 
monly done by private owners. 

Profits from § 116. Thus far in our analysis of profits we have assumed 
anging ^j^^^. ^j^^ rents and wage and interest rates that enterprisers 

Wages and ™^^^ P^y ^^^ fixed by general market conditions and may 

Interest. not be changed by individual enterprisers. This is true to the 
extent that general market conditions remain stable, but when 
these are changing, as they usually are in developing countries, 
when new lands are being brought under cultivation, when 
the population is growing, and when capital is increasing, then 
rents and wage and interest rates must change too, and there 
is opportunity for capable enterprisers to hasten or resist gen- 
eral tendencies and in this way to secure for a time profits 
above the wages-of-management. A few examples will indi- 
cate how profits may arise from these sources. 

One change that went on in the United States for several 
decades was the lowering of agricultural rents in the Eastern 
States as new lands were developed in the West. Aggressive 
farmers of rented farms took the initiative in demanding 
better terms as economic conditions made a fall in rents in- 
evitable. By so doing they avoided the losses that their less 
progressive neighbors sustained by consenting to renew their 
leases on the same terms as before. In other sections where 
rents were rising the more aggressive tenant farmers refused 
to pay more until actually compelled to, and in this way kept 
their expenses below those of their more tractable neighbors. 
Similarly there have been general movements in the wages 

• that competition secures for different grades of labor. When 

wage rates are rising, it is usually possible for some enter- 
prisers to resist the movement for a time and in this way to 
keep down their expenses, without losing any considerable 
number of their employees. Eventually they must accept the 
higher rates or lose their men, but during the interval that 
they refuse to do so, they may reap an extra profit. On the 
other hand, aggressive enterprisers lead the movement to re- 
duce wages when rates are tending downward and may in 
this way cut down their expenses sooner than their com- 
petitors, who receive no higher prices than they do for their 



CONCLUSION 211 

products. In agreements as to rates of interest there is less 
chance for overreaching because those who lend and those 
who borrow are about equally conversant with the conditions. 
At the same time even here some enterprisers gain an advan- 
tage when rates are changing by making better terms than 
their competitors. 

In all of these cases prompt adaptation to favorable con- 
ditions or grudging acceptance of unfavorable changes only 
at the eleventh hour give rise to profits. Failure to cut down 
expenses as occasion offers or too ready acquiescence in rising 
expenses may, on the other hand, cause losses. 

§ 117. In this brief discussion of the causes of competitive Conclusion, 
profits it has been possible to indicate only the more important 
of the many circumstances which give rise to them. The 
financial columns of every newspaper teem with items illus- 
trative of the general causes of profits that have been de- 
scribed and suggest others to which no reference has been 
made. In connection with all of these causes of profits the 
essential principle to note is that they originate in change 
and are important because it takes time for competition to 
adjust economic relations to changed conditions. 

When an industrial society is progressing and in each period 
there is more wealth to be divided among the sharers in dis- 
tribution than in the preceding period, a large part of the 
increase will appear temporarily as extra profits going to its 
enterprisers. In the same way, when an industrial society is 
retrogressing the loss will fall first upon its enterprisers. 
Theirs is the elastic share that increases or diminishes readily 
in response to changed conditions. But whether the net bal- 
ance happens to be above or below the wages-of -management, 
competition among enterprisers themselves is a force which 
tends constantly to make their gains correspond to bare wages. 
Profits stimulate them to bid against one another for the 
factors of production and to raise rents and wage and interest 
rates until expenses and prices are again equal. Losses lead 
them to contract production and cut down expenses until in 
this way equality is restored. Thus, however large profits or 
losses may be at any given time, they are always in process 
of extinction — always, that is, unless monopoly infiuences in- 



212 COMPETITIVE PROFITS 

tervene and prevent the forces of competition from accom- 
plishing their work of elimination. 

REFERENCES FOR COLLATERAL READING 

*8eUgman, Principles of Economics, Chap. XXIII.; *Carver, Distribu- 
tion of Wealth, Chap. VII.; Fetter, Principles of Economics, Chap. 
XXXI.; * Bullock, Selected Readings in Economics, Chap. XII.; * Mar- 
shall, Principles of Economics, Book VI., Chaps. VII. and VIII.; 
*Pierson, Principles of Economics, Part I., Chap. V.; Taussig, Prin- 
ciples of Economics, Chaps. XLIX. and L. 



CHAPTER XIII 
DISTRIBUTION: MONOPOLY PROFITS 

§ 118. Monopoly means usually in economics such control Definition 
over the supply of an economic good as enables the monopolist °^ 
to regulate its price. This definition refers to producers' or 
sellers' monopolies. Contrasted with these are buyers' monop- 
olies, which rest on control over the demand and the regulation 
of prices from that side. In practice buyers' monopolies are 
so unusual that only brief consideration is given to them in 
this treatise. 

A distinction which it is important to note at the outset is Contrast 
that between monopoly and differential advantage. In nearly ^ 
every branch of competitive business differential advantages . , 
are found. In farming one producer of wheat uses better tages. 
land than another producer. In manufacturing one mill 
owner utilizes a superior source of w^ater power. In all pur- 
suits competitors are themselves differently endowed, some 
being more capable than others and receiving larger returns, 
while all are selling the same goods in the same markets at 
the same prices. Although important sources of income, such 
differential advantages are not the cause of monopoly profits. 
The fact that some pieces of land and some sources of power 
are better than others, does not prevent an active competition 
among farmers and manufacturers which tends to keep prices 
down to the expenses of production of representative firms. 
Equally ineffectual as a bar to active competition are the 
personal differences among men. The consideration of the 
influence of these differential advantages upon the distribu- 
tion of incomes, belongs under the head, not of monopoly, 
but of rent and wages. Only when competition is interfered 
with and one firm or a combination of firms secures such 
control over the supply that it may regulate the price, does 
monopoly appear. Its essence is control over the supply and 
its surest indication is regulation of prices. 

213 



214 MONOPOLY PROFITS 

Kinds of § 119. The principal classes of monopolies which are of 

Monopolies, jjji^gpgg^ to the economist are: (1) personal monopolies; (2) 
legal monopolies, which may be (a) public or (b) private; 
(3) natural monopolies of situation; (4) natural monopolies 
of organization ; (5) capitalistic monopolies ; (6) labor monop- 
olies. 

A personal monopoly arises when one individual controls 
the supply of a given good, either because he possesses unique 
talent {e.g., an artist's monopoly of his own works), or 
because he uses a secret process so superior to all other proc- 
esses that he is able to drive all competitors from the field. 
A legal monopoly is one based upon some law or governmental 
privilege. Examples of public legal monopolies are furnished 
by the tobacco monopoly of France, the salt monopoly of Sax- 
ony and the post-office monopoly of the United States. The 
most familiar private legal monopolies are those based on 
patents, copyrights and exclusive franchises. Natural mo- 
nopolies of situation are of two kinds: those due to social 
and those due to physical conditions. Of the first kind are 
the monopolies which the single village blacksmith and store- 
keeper enjoy until competitors enter the field. More im- 
portant are monopolies of the second kind, which depend upon 
some physical limitation in the sources of supply of the goods 
controlled. Of this type are businesses using unique mineral 
springs or mountain passes, or controlling the whole areas 
from which certain commodities, such as diamonds in Africa 
or anthracite coal in the United States, are obtained. Natural 
monopolies of organization are businesses which obey a law 
of diminishing expense, no matter how large the business be- 
comes. Such are the railroad and businesses concerned with 
the distribution of letters, telegrams, parcels, gas, water and 
electrical power. Capitalistic monopolies are those which 
result from the concentrated power of large aggregations of 
capital and are represented in the United States by the so- 
called trusts. Labor monopolies are monopolies resulting from 
combinations of skilled workmen able to control the supply of 
the economic good, labor. 

"When all of the businesses in a country like the United 
States which may properly be classed under one or other of 



IMPORTANCE OF MONOPOLIES 215 

the above heads are considered, the importance of monopoly Importance 
is more likely to be exaggerated than underrated. Personal of 
monopolies are encountered in connection with all artistic Monopolies, 
and professional work. Although not usually the ground for 
very large incomes in individual cases, they exert in the aggre- 
gate a considerable influence on the distribution of wealth. 
Secret processes are not at present the source of very great 
monopoly returns but only because those who control such 
processes usually prefer to have their monopolies confirmed 
by patent. The number of patented processes now used in 
connection with business enterprises may be inferred from 
the fact that during the last seventy-five years the United 
States has issued more than 1,000,000 patents. Although the 
monopolies to which patents give rise are only temporary, in 
a country in which processes are so soon superseded as they 
are in the United States, they serve to give a monopolistic 
character to a great many branches of manufacturing busi- 
ness. Businesses enjoying exclusive franchises are less com- 
mon, but on the other hand they include some of the branches 
of production that are most vital to the general well-being 
such as water, gas and street railway companies. Natural 
monopolies of situation are not as yet very important, but 
they appear to be on the increase. A few years ago the 
suggestion that a single corporation could monopolize the 
iron-ore and coking-coal resources of the United States would 
have been greeted wdth incredulity. Such a consummation 
was by no means realized by the Steel Trust, but its prog- 
gress in that direction must make economists hesitate to 
impose any limits upon the possible development of nat- 
ural monopolies of this type in the absence of legal inter- 
ference. The importance of natural monopolies of organi- 
zation, which embrace the chief transportation businesses 
of the country, can hardly be exaggerated. Upon them 
all other businesses are vitally dependent, and this depend- 
ence increases rather than decreases as production becomes 
more concentrated and the division of labor is made more 
minute. Finally, the capitalistic monopolies and the labor 
monopolies, which are among the latest fruits of the country 's 
industrial development, merit all of the attention that has 



216 



MONOPOLY PROFITS 



Limitations 
on Monop- 
oly Power. 



Power of 
Substitu- 
tion. 



been accorded to them. If these various monopolies were 
quite unhampered in their control over the prices of the goods 
they produce the present might well be styled the age of 
monopoly rather than the age of competition, but fortunately 
control over prices is rarely unhampered. 

§ 120. The most important limitations on the power of a 
monopolist to regulate prices are three: (1) the possibility 
open to buyers of substituting other goods for those which are 
monopolized, (2) the possibility of competition which may 
deprive the monopoly of its control over the supply, (3) the 
possibility of legal interference. Taken together these three 
limitations confine the price-making power of monopolies 
within rather narrow limits and explain the fact that their 
practical operation is so much less harmful to the interests 
of consumers than contemplation of the nature of monopoly 
would lead one to expect. 

The limitation imposed by the power of substitution depends 
upon the range of substitute goods open to buyers. A few 
examples will make this clear. Suppose that the monopolized 
good is a particular kind of vv^ine. Substitutes for it are all 
other kinds of wine, all other kinds of liquors, even all other 
kinds of comforts and luxuries so far as wine itself is in this 
category. An attempt to increase the price would under such 
circumstances greatly reduce the amount of wine of the par- 
ticular brand that could be sold. Unless it had especially 
endeared itself to the palates of consumers, a comparatively 
small increase in its price would spoil its market. The 
attempt to double the price might even divert the entire de- 
mand to other goods. In such a case the effort to win more 
than a small margin of monopoly profit from consumers would 
be fatal to the interests of the monopolist. 

Again, suppose matches to be the monopolized product. 
The customary price of matches is now so low as to encourage 
their general use, and they are now looked upon by every one 
as a necessary. Moreover, substitutes for matches are quite 
unsatisfactory. The range for substitution is so narrow in 
this case that the monopolist may make considerable changes 
in the price without seriously affecting the demand. Under 
such circumstances the conditions as regards the possibility of 



COMPETITION 217 

substitution are peculiarly favorable to monopoly profit. 
Fortunately for consumers they are less favorable as regards 
the possibility of competition. 

Take, finally, the case of a railroad which furnishes the 
only available outlet to the market for a given district. Its 
rate-making is not controlled by competition in the ordinary 
sense, but its patrons have always the alternative of not 
prosecuting the industries whose products must be shipped to 
the distant market. Their power of substitution is that be- 
tween producing for rail shipment and devoting their land, 
labor and capital to other production. In practice this is a 
very important limitation, since the economical administration 
of a railroad demands a large volume of traffic, and a road 
cannot afford to make its rates so high that only a few trains 
will be run over its costly roadbed each day. At the same time 
in many localities this limitation is not sufficient to insure 
reasonable rates, and legal interference has been found neces- 
sary to protect the interests of the public. 

The possibility of exciting competition and losing control of Competi- 
the supply is an ever-present danger to capitalistic monopolies tion. 
and in less degree to personal and natural monopolies of 
organization. This has been illustrated over and over again 
in connection with trusts in the United States. An example 
is furnished by the history of the sugar trust. ** In 1887 the 
Trust was formed. The margin of profit was immediately 
raised more than half a cent a pound, at times even fully one 
cent a pound. . . . The margin fell again in the latter part 
of 1889. This was owing to the fact that large competing 
refineries, especially those built by Claus Spreckels at Phila- 
delphia, had entered the field. For rather more than two 
years, while this vigorous competition continued, the margin 
fell back to a point substantially as low as had existed before 
the formation of the Trust. In February, 1892, the Trust 
bought up the competing refineries and the margin was at 
once put back to the non-competitive height. From the years 
1892 to 1898 the margin remained, relatively speaking, high. 
... In the latter part of 1898 vigorous competition against 
the American Sugar Refining Company (the reorganized 
Trust) began on the part of Arbuckle Brothers, Claus Doscher 



218 MONOPOLY PROFITS 

and others."* Similar examples might be cited from the 
histories of combinations in other industries showing that 
competition is an ever-present possibility that has to be reck- 
oned with by the managers of capitalistic monopolies. 

That the possibility of competition is a limitation on the 
monopoly of the village blacksmith, the village grocer, etc., is 
too obvious to require discussion. So long as these business 
men keep their charges down to fair wages-of-management 
for themselves their monopoly of these businesses may be 
undisturbed. Let them increase their charges, however, or 
let the village grow until there is employment enough for 
two in these lines, and a competitor is sure to appear. This 
does not mean that such men may not enjoy monopoly profits 
from their situation, but that they must be cautious in in- 
creasing their charges at the risk of losing their monop- 
olies. 

Natural monopolies based on the law of diminishing expense 
are subject to the same check. For example, in the railway 
business, while it is true as a general statement that one 
company can carry freight and passengers between two points 
more cheaply than could two companies dividing the traffic 
between them, it is also true that the difference is not so great 
that unduly high rates charged by the first company will not 
induce capitalists to construct a parallel road to compete for 
the business. Such competition is frequently uneconomical 
from the social point of view, but the history of railroad build- 
ing in the United States is full of evidence to show that it 
frequently springs up and acts as a limitation on monopoly. 
Legal The last limitation referred to, that is, the possibility of 

Interfer- government interference, applies especially to natural and 
capitalistic monopolies. In the case of the former it is 
coming to be recognized more and more fully that competition 
cannot be relied upon to regulate the businesses affected and 
that government interference or government regulation is the 
only alternative. How far this conviction has found expres- 
sion in law is considered in Chapter XXIV. in connection with 
the discussion of efforts to regulate railroads in the United 
States. Government interference with capitalistic monopolies 
* Jenks, The Trust Problem, pp. 136-138. 



ence. 



LAW OF MONOPOLY PRICE 219 

or trusts has been attempted also in the United States through 
the so-called anti-trust acts considered in Chapter XXV. 

Summing up these considerations in reference to limitations Conclusion, 
on monopoly, we may conclude that the possibility that other 
goods may be substituted for the monopolized product applies 
to all monopolies, but with a force varying in each case with 
the range of substitutions open to consumers. The possibility 
of competition threatens all except personal monopolies of 
ability, legal monopolies and natural monopolies of location. 
Legal interference, finally, has actually been applied to nat- 
ural and capitalistic monopolies. These three limitations serve 
as effectual checks on the reckless exercise of monopoly power. 
Only when the range of substitutions open to consumers is 
narrow and the obstacles which competitors must overcome, 
in order to enter the field, formidable, does monopoly present 
a serious problem or is legal interference necessary. 

§121. Monopolists, so far as they are free to obey the I-a^of 

dictates of self-interest, tend to fix those prices for their ^o^opoly 

Price 
products which will yield the largest monopoly profits. Just 

what this means may be made to appear from a simple illus- 
tration. 

Consider the case of a patented article in general use, like 
a special brand of soap. As a rule the expense of producing 
such an article diminishes as the number of units produced 
increases. On the other hand, in accordance with the familiar 
law of demand, as the number of units offered for sale is 
increased the price that can be secured for each unit decreases. 
Suppose that the volume of sales at different prices, the ex- 
pense of production per unit for these different quantities 
sold and the monopoly profits received are as represented in 
the table on the following page. It is clear from a study of 
this table that, on the conditions assumed, the price that af- 
fords the maximum monopoly profit will be somewhere 
between nine and ten cents. Until the price, ten cents, is 
reached the larger volume of sales and diminishing expense 
per unit more than counterbalance the loss due to lowering 
the price. Below nine cents the loss in price is no longer 
offset by these other factors, although they continue to operate, 
and consequently profits decline. As this table indicates 



220 MONOPOLY PROFITS 

monopoly price does not necessarily mean extravagantly high 
price. In this example the price most advantageous to the 
monopolist is about double the expense of production. In 
actual practice the margin of monopoly profit is apt to be 
even smaller than this except for goods the demand for which 
is quite inelastic. The table follows: 





No. of 


Gross 


Expense 


Gross 




Price 


Cakes Sold 


Receipts 


per Cake 


Expenses 


Profits 


50c 


100,000 


$ 50,000 


r2c 


$ 12,000 


$ 38,000 


40 


130,000 


52,000 


11 


14,300 


37,700 


30 


200,000 


60,000 


10 


20,000 


40,000 


25 


400,000 


100,000 


8 


32,000 


68,000 


20 


600,000 


120,000 


7 


42,000 


78,000 


15 


1,000,000 


150,000 


6 


60,000 


90,000 


10 


2,500,000 


250,000 


5 


125,000 


125,000 


9 


3,000,000 


270,000 


4f 


145,000 


125,000 


8 


3,500,000 


280,000 


4f 


165,000 


115,000 


7 


4,000,000 


280,000 


4| 


185,000 


95,000 


6 


6,000,000 


360,000 


4i 


270,000 


90,000 


5 


10,000,000 


500,000 


^ 


437,500 


62,500 


4i 


14,000,000 


595,000 


4i 


595,000 





When a monopolist enjoys exclusive control of the monopo- 
lized good, he may fix the price at the point affording the 
maximum profit without fear of exciting competition. But 
few monopolists are so fortunately situated as this implies. 
Competition, even though not in active operation, is an ever- 
present possibility with which most monopolists must reckon. 
Prudence dictates usually a more conservative policy in refer- 
ence to prices than that which would secure for the time being 
the largest monopoly profits. In the assumed case the price 
of soap is likely to be fixed at something less than nine cents, 
in the expectation that the present loss in profits will be more 
than made good by the protection of the monopoly from future 
competition that it insures. In the same way fear of gov- 
ernmental regulation often checks the rapacity of monopolists 
long before such regulation is actually undertaken. The law 
of monopoly price thus indicates the extreme limit to which 
monopolists are likely to go in fixing prices and not necessarily 
the price that they will actually charge under the practical 
limitations which control their conduct. 



COMPLICATIONS 221 

§ 122. In the case of many monopolized products, as has Complica- 
been pointed out by Professor Ely,* there are different strata tions. 
of demand each controlled by somewhat different considera- 
tions. This also may be illustrated by reference to the demand 
for such a commodity as soap. Many consumers would prefer 
to pay fifty cents a cake for soap if they believed that by so 
doing they were getting a better article than their neighbors. 
Taking advantage of this fact, the shrewd monopolist of a 
particular brand of soap offers several dift'erent grades for 
sale at different prices. That intended for the mass of con- 
sumers is put out under the firm name simply, at the price 
— ten cents, say — calculated to afford the maximum monopoly 
return. Along with this is offered at a higher price — say, 
twenty-five cents — the same article, colored a little differently 
or pressed into a different shape, w^hich is designated " su- 
perior." A dash of inexpensive scent and a more elaborate 
wrapper transforms " superior " soap into " superfine " and 
insures a limited sale at fifty cents a cake. In this way not 
only is a larger margin of profit secured on the supposedly 
better grades, but consumers are reached who would never 
think of buying plain, ordinary soap for the very reasons 
that recommend it to less fastidious people. 

The practice of offering substantially the same goods at 
different prices is by no means confined to manufacturers of 
patented toilet articles. It is found in connection with nearly 
every kind of commodity that figures in personal consumption. 
Makers of bicycles and automobiles, manufacturers of patented 
foods and beverages, fashionable tailors and haberdashers and 
many others recognize the opportunity for profit along this 
line, and conduct their businesses accordingly. The resulting 
complication in the theory of monopoly price is easily under- 
stood from what has already been said. Instead of making 
calculations in reference to consumers' demand as a whole, the 
monopolist makes special calculations in regard to the extent 
and the intensity of the demand of each class of consumers. 
He offers the " superfine " grade of his product at a price 
commensurate with the adjective used to designate it. The 
" superior " article is put on the market at a price calculated 
* Monopolies and Trusts, Chapter III. 



222 MONOPOLY PROFITS 

to attract the comfortable middle class, which appreciates 
quality but is not prepared to disregard altogether considera- 
tions of expense. Finally, a price is made for the simple 
article which will commend it to the rank and file of con- 
sumers who are comparing it with substitute articles and 
anxiously considering which is, on the whole, the best for the 
money. 
Summary. The law of monopoly price may be summed up in the maxim, 
ask that price which is calculated to yield in the long run the 
maximum monopoly profit. To decide what this price is in 
any given instance, the monopolist must gage the extent and 
intensity of consumers' demand both as a whole and as mani- 
fested by different classes of consumers. He must then calcu- 
late his own expenses of production for different quantities of 
the monopolized good. His first concern will be usually to put 
out the standard grade of the commodity he produces at a 
price that will afford the largest monopoly profit. This may 
be a high price, but if the demand is elastic it is more likely to 
be moderate or even low, especially if the expenses of produc- 
tion per unit diminish as the volume produced is increased. 
Having fixed the price for the standard grade, the monopolist 
will consider whether it would not be profitable to offer 
superior, superfine or other grades to particular classes of con- 
sumers at higher prices. In connection with each grade he 
must make a calculation similar to that originally made, and 
he must also consider how the sales of these superior grades 
will react on the sales of the good of standard quality. 
Whether he will put out special grades and how many he will 
put out will depend upon the special character of the demand 
for his product. 
Methods of § 123. Monopoly profits have never been looked upon with 
Concealing- j^^qj. jjj ^j^g United States. Even the suspicion that they were 
Profits being enjoyed has sufficed often to disturb the conditions 

which made them possible, either because consumers have 
combined to boycott the monopolized good or because the 
government has interfered. Under such circumstances it has 
been but natural for monopolists to devise numerous ex- 
pedients for concealing their real earnings. 

For personal monopolies, to deceive the public as to the 



CONCEALING MONOPOLY PROFITS 223 

profitableness of business activity is an easy matter, but it 
is less so for corporations with monopoly powers. However 
secretive corporations may be in regard to their methods of 
doing business, they are compelled, on sharing their earnings 
among their stockholders, to disclose the amount of these 
earnings to a number of persons. The stock of a small cor- 
poration may be so narrowly held that secrecy even in refer- 
ence to dividends is possible, but this is rarely the case with 
large corporations. The latter can conceal their profits only 
by distributing them in other forms than dividends to stock- 
holders, or by inflating their capitalization so that large divi- 
dends may be paid without exceeding a moderate rate of 
return on the nominal capital. A few words may be said 
about each of these methods. 

Directors may expend surplus earnings for additional equip- Inflated 
ment, patents or other property at greatly inflated valuations. Salaries 
By this means monopoly earnings are diverted to the owners ^ ^^ 

- , . £iXp6IlS6S* 

of the properties purchased, who may be the directors them- 
selves or their friends. This method may conceal the monopoly 
profits even from the stockholders, who continue to receive 
only moderate dividends. Somewhat similar, and even more 
common, is the practice of dividing monopoly profits among 
the higher officials of the monopolistic corporation in the form 
of large salaries. It is a familiar fact that monopolies are 
good employers. They frequently pay wages above the com- 
petitive rates even to their ordinary workmen. To some ex- 
tent, and perhaps fully as regards the lower grades of labor, 
this policy is justified by the better service that it secures. 
It is not, however, confined to the ordinary grades of labor, 
but applies in extreme form to salaried officials. These men 
are in a position to bring infiuences to bear on boards of 
directors to have their salaries increased to much more than 
they could hope to earn if they were engaged in competitive 
industries. Sometimes they are themselves large stockholders 
in the enterprises which they manage ; at others their knowl- 
edge of the business may be valuable to the corporation because 
they are in possession of secrets which it would be highly 
disadvantageous to have made public. To insure their con- 
tinued loyalty to the interests of the monopoly they must be 



224 MONOPOLY PROFITS 

well paid for their services. On these and other grounds 
monopoly profits are often hidden in salaries much above what 
enterprisers directing competitive businesses could afford to 
pay for similar grades of service. 
Stock The most common expedient of all for concealing profits is 

Watering, ^^iq practice of inflating the capitalization of the corporation. 
Where a business is organized by shrewd men who foresee its 
monopolistic possibilities, it is usual to start with a grossly 
inflated capitalization. In the railway business, for example, 
it has not been unusual to secure all of the capital required 
by the sale of bonds and to distribute the stock as a pure 
bonus. Industrial combinations as organized in the United 
States accomplish the same result by putting out preferred 
stock equivalent to the actual capital invested in the business 
and an equal or even larger amount of common stock as a 
bonus. In these and other ways the nominal capital of an 
enterprise may be made, from the first, two, three or even five 
or ten times the amount actually invested in it. Such an 
arrangement permits directors to distribute very large profits 
as dividends on the nominal capital without exceeding the 
ordinary rate of interest. 

It often happens, even when large monopoly earnings are 
anticipated, that the nominal capitalization is not made large 
enough to conceal them In such cases, and in the more usual 
cases in which actual and nominal capitalization start to- 
gether, the practice of " watering " stock to conceal excessive 
earnings is frequently resorted to. This consists simply in 
issuing new stock for which no equivalent investment is re- 
quired. It may be accomplished by means of a stock dividend, 
each shareholder being given an amount of new stock propor- 
tional to his original holding ; or by the issue of new stock for 
subscription at a nominal price, subscriptions being open only 
to shareholders, directors or other favored investors. By these 
means the nominal capitalization may be expanded to keep 
pace with earnings and to permit their distribution without 
any apparent increase in the dividend rate. 

The above ways of concealing monopoly profits have been 
resorted to so generally by monopolistic corporations in the 
United States that the casual reader of the reports of some 



FUNDED INCOMES 225 

of the most successful of these enterprises would never sus- 
pect that their earnings were larger than those of competitive 
businesses. To show that they are so in fact requires a full 
knowledge of the operations of such corporations from the 
time they were first organized. In most cases such knowledge 
is confined to those most interested to keep it secret and in 
consequence it is rarely possible for an impartial investigator 
to determine what part of the earnings of a monopolistic en- 
terprise represents a fair interest on the capital actually in- 
vested in it and what part monopoly profit. 

§ 124. One consequence of the policy of concealing profits Funded 
is that the business community no longer regards nominal Incomes, 
capitalization as a fair criterion of capital value. It is so 
habituated to the practice of adjusting capitalization to earn- 
ing power that it readily accepts the latter as the real test of 
what the capital ought to be. Thus a business which earns 
$80,000 a year over and above its expenses of operation, when 
the rate of interest on investments involving similar risks is 
8 per cent, is taken to be worth $1,000,000, without much ref- 
erence to the tangible capital invested in it. If the business is 
organized as a corporation with 10,000 shares of capital stock 
the shares will be quoted at $100. This procedure may be 
described as capitalizing income. Income which is thus capi- 
talized is sometimes spoken of as funded income to distinguish 
is from simple interest on capital invested in competitive in- 
dustries. The monopoly profits of monopolistic corporations 
are one, but by no means the only, tj^pe of funded income. 

The practice of capitalizing income or of putting valuations Earned v. 
on monopolistic and other sources of income in proportion to Unearned 
the returns which they afford, gives rise to vested interests ■'■'^°°"^^^- 
in the established order. " Innocent investors " buy shares 
of stock in monopolistic corporations, paying for them prices 
proportioned to the monopoly earnings that are being realized, 
and then claim the protection of the government against re- 
formers who characterize monopoly profits as unearned and 
advocate their confiscation. The advantage of this kind of 
support to promoters of monopolistic undertakings is so ob- 
vious that they not infrequently, especially in connection with 
local monopolies, make special efforts to insure the wide dis- 



226 MONOPOLY PROFITS 

tribution of the stock of their companies in the localities to 
be exploited. If persons of light and leading in such places 
can be persuaded to become stockholders the likelihood of gov- 
ernment interference as profits grow is greatly lessened. In 
time innocent investors may come to control entirely corpora- 
tions of this character through the silent withdrawal of the 
original promoters to other fields. Under such circumstances 
the claim that the monopoly profits are no more than a fair 
return on their hona fide investments may be advanced by the 
stockholders with much force. Most of the older natural 
monopolies in the United States have already reached this 
stage. Any proposal to curtail their monopoly earnings by 
fixing the prices they may ask for their services or by requir- 
ing from them extraordinary contributions to the support of 
the state is met by the objection that they pay no larger re- 
turns to those interested than competitive businesses, and 
should therefore be no more subject to government control 
or taxation than the latter. How serious an obstacle this 
argument opposes to efforts to secure for the general public 
a share of the benefits of monopoly is familiar to every one 
who follows current discussions of the monopoly problem. 
Monopolies § 125. There is a widespread impression in the United 
Not Always g^^^^gg ^j^g^^ monopolies are always and unalterably opposed 
taeeous ^^ ^^^^ public interest. This is based partly on experience of 
the bad phases of monopoly and partly on the teachings of 
jurists and economists. American courts uniformly declare 
monopoly, except that created by the government itself in the 
exercise of its constitutional powers, illegal. Economists are 
equally prone to characterize monopoly as abnormal and to 
extol an industrial system of free, all-sided competition as 
that best calculated to promote the general interest. There 
is, of course, good reason for this distrust of monopoly, but 
if the analysis we have given of the different kinds of monopo- 
lies and of the restraints under which they exercise their 
powers is accurate, it ought not to be extended to all without 
qualification. For some industries monopoly is not only as 
normal and inevitable as is competition for other industries, 
but it is the form of organization that best serves the public 
interest. Natural monopolies of organization, for example. 



OTHER SHARES 227 

are monopolies because as such they can produce more eco- 
nomically than could competing firms. For them the monopoly 
form of organization is the desirable form, which should be 
encouraged rather than discouraged by those who have the 
public interest at heart. 

Another misapprehension that is current is that monopoly 
always means large monopoly profits. That this is not the 
case is evident when it is remembered how many patented 
articles, in connection with which the government itself under- 
takes to protect the producer in his monopoly, are regularly 
produced at a loss. Many other conditions in addition to 
control over the supply of the good produced are necessary 
to make production profitable. When all the conditions are 
favorable, large monopoly profits, of course, may be and 
often are secured. But the power that consumers possess of 
substituting other goods for those monopolized and the danger 
that competition will be excited are ever present forces which 
confine monopoly profits in most businesses within narrow 
limits. 

§ 126. In this treatise monopoly profits are discussed in- Influence of 

dependently of the other shares in distribution, not because Monopoly 

they are considered unusual, but because it is easier to trace ^^, 

.... Other 

their influence when they are studied in isolation. In actual gi^ares 

industrial society competitive and monopolistic enterprises 
are carried on side by side and act and react upon one another. 
The influence of monopoly profits on the other shares in dis- 
tribution should be briefly indicated before we turn to a dis- 
cussion of the competitive shares of income — rent, wages and 
interest— treated in the following chapters. To secure monop- 
oly profits monopolists must fix the prices of their goods above 
their expenses of production. In the example given in an 
earlier section the largest monopoly profit was secured when 
a price between nine and ten cents was fixed for the patented 
soap. The expenses of production for the 2,500,000 cakes 
that could be sold at ten cents averaged only five cents, so 
that the effect of the monopoly was to make the price nearly 
double what it would have been had competition had free play. 
To maintain the price at ten cents the monopolist must, of 
course, limit production to the 2,500,000 cakes which the public 



228 



MONOPOLY PROFITS 



Practical 

Phases of 

Monopoly 

Problem 

Treated 

in Later 

Chapters. 



will take at that figure. If competition forced him to lower 
the price to six cents he could produce and sell, according to 
the conditions of the illustration, 6,000,000 cakes. At the 
price corresponding exactly to the expenses of production, 
four and one-quarter cents, he could sell more than double this 
product. The effect of monopoly is, accordingly, to reduce 
the amount of the monopolized good that is produced and sold 
below what it would be under conditions of free, all-sided 
competition. Only through such reduction or curtailment of 
the supply can the coveted monopoly profit be secured. But 
reducing the output of the monopolized good involves the em- 
ployment by the monopolistic enterprise of less land, labor and 
capital than would be needed in the same branch of produc- 
tion if competition had free play. The effect of monopoly 
is thus to increase the supplies of the factors of production 
which must find employment in competitive industries. What 
influence this mal-distribution of the factors of production 
is likely to have on the shares of income, rent, wages and in- 
terest, can only be explained after we have considered how 
these shares are determined. Such influence is of course sup- 
plementary to the tax on all consumers who buy monopolized 
products, resulting from the enhancement of their prices. 

The phases of the monopoly problem that have assumed 
greatest importance in the United States concern legal and 
natural monopolies, trusts and labor monopolies, and these 
are treated at some length in later chapters (XXIII., XXIV., 
XXV. and XXIX.). In them the reader will find many con- 
crete details and illustrations which, out of consideration for 
space, have been omitted from the preceding sections. 



REFERENCES FOR COLLATERAL READING 

*Mars'hall, Principles of Economics, Book V., Chap. XIV.; *Ely, 
Monopolies and Trusts, Chaps. I. -IV. ; Bullock, Introduction to the 
Study of Economics, Chap. XI.; Fetter, Principles of Economics, Chap. 
XXXIII.; * Taussig, Principles of Economics, Chap. XLV. 



CHAPTER XIV 
DISTRIBUTION: RENT 

§ 127. In the preceding chapters the more or less irregular Contrast 
and uncertain shares in distribution have been discussed, between 
Competitive profits rise and fall and for enterprisers as a ^° ^^^ 
whole, except in periods of industrial expansion, are as likely glares 
to take the form of losses as of gains.* Monopoly profits are 
more stable and in the aggregate constitute an important part 
of the community's income, but the conditions upon which 
monopoly depends are subject to change ; the tastes of con- 
sumers may be modified or substitute articles may be put 
upon the market ; new methods of production may be devised 
which deprive the monopoly of its advantage, or the strong 
arm of the law may be interposed to divert monopoly-- profit 
to the public either by the forcible lowering of prices or 
through taxation. In these and other ways monopoly profits 
may be reduced or entirely cut off before they have been 
enjoyed for any long term of years. In contrast with profits, 
the elements entering into the normal expenses of production 
— rent, wages and interest — are regular and persistent. Their 
payment is not due to the absence of competition, but is the 
direct consequence of the activity of competitive forces. The 
keener and more general competition is the more certain and 
definite these shares become. For this reason in explaining 
them it will be convenient to revert often to the relations that 
would prevail in an industrial society brought to the state of 
normal equilibrium. In such a society the relations which 

* The Gerraan economist, von Thiinen, advanced the theory that com- 
petitive profits must in the long run be on the positive side, because 
enterprisers take great risks, and must be compensated for so doing. 
This depends, obviously, upon whether taking risks in the industrial 
society under consideration is distasteful. In the United States there 
are so many people who really like to take risks that compensation for 
risk-taking is a small, if not a negligible, element in profits. 

229 



230 



RENT 



Definition 
of Rent. 



Problems 
Connected 
with Rent. 



The Source 
of Rent. 



The 

Principal 
Grades of 
Land Dis- 
tinguished, 



Store Sites. 



economic forces tend to establish in the actual industrial world 
are sharply defined and may be easily apprehended. 

§ 128. Rent is the term given in economics to the share of 
income that is assigned or poAd to otvners of land, sources of 
water poiver and other gifts of nature which assist production, 
for the use of these factors. When the factor is used by the 
owner himself, rent is a part of the gross return that he 
realizes from his year's business and is, economically, as 
distinct from his other income as it would have been had 
he leased the factor at a stipulated rental from some other 
owner. 

A complete study of rent involves two distinct lines of in- 
quiry. First, it must be explained why rent is paid and 
what determines its amount. These are purely scientific 
questions. Secondly, it must be considered whether the pres- 
ent system of allowing the earnings of land and other gifts 
of nature to go to the individuals whom the law recognizes 
as their owners is socially defensible. This also is a scientific 
question, but its answer depends upon moral, political and 
social considerations which are still matters of dispute even 
among the most intelligent and best-intentioned. In this 
chapter attention is confined to the explanation of rent. 

§ 129. The source of rent has already been indicated in 
Chapter VIII. It w-as there shown that land and natural 
powers assist production unequally in different situations and 
that rent is what enterprisers pay for the use of superior land 
and sources of power to equalize conditions. 

In a country like the United States land is divided up into 
hundreds of different grades to be applied to as many different 
productive uses. To simplify the explanation we will assume 
that these different uses of land may be included under five 
heads as follows: Grade A, Sites for City Stores; Grade B, 
Sites for City Residences; Grade C, Truck-farming Plots; 
Grade D, Wheat Land ; Grade E, Grazing Land. The relation 
among these different grades of land may be represented with- 
out great inaccuracy as that between the areas inclosed be- 
tween concentric circles, as in Figure 8. 

At the center, A, is the land devoted to store sites, which 
is economically the most important use. For purposes of 



GRAPHIC ILLUSTRATION 



231 



trade central situations must be selected. These are also de- 
sirable for residence purposes, but inasmuch as a residence 
site serves but one familj^, while a store site serves many 
families of customers, the store use triumphs. 

Next to the store sites in a city are residence sites, B, which, Residence 
other things being equal, are desirable in proportion to their S^*^^- 
nearness to the business centers. Many lots are just on the 
borderland between these two uses. It is just worth while for 




Fig 8. 



storekeepers to pay a little higher rent for them than they 
command as residence sites, or not quite worth while. 

Beyond the residence sites are plots devoted to truck-farm- Plots 
ing, C. In every city the line is somewhat roughly drawn ^^^°*^^ 
between these two grades, and some land is found in a transi- 



to Truck 
Farming. 



tion stage which may be had for truck-farming at a very 
moderate rental on condition that the lease shall be terminable 
at the will of the owner. Lots in this situation are the border- 
lands between grades B and C. 

All land good enough and near enough to a market to be Farm Land 
used for truck-farming might be used for the cultivation of ^°P^^- 
some staple crop, like wheat. That it is not is proof that truck- 
farming causes it to yield a higher rent than would wheat- 
farming. Trucking is economically a more important use, 
chiefly because green vegetables will not stand distant trans- 



232 ' RENT 

portation as will wheat and other staples. On the outer cir- 
cumference of the belt of land devoted to truck-farming will 
be found acres which it does not quite pay to use for this 
purpose and which are cultivated extensively for some staple 
crop. These are the borderlands betAveen grades C and D. 
Grazing T^g transition from arable farming to grazing occurs simi- 

^" • larly at the outer circumference of the lands devoted to the 

growing of wheat. Land too remote or too poor to be sowed 
with a wheat crop is yet well adapted to the grazing industry 
and may afford a moderate rental in comparison with the 
land still more remote and still poorer which it barely pays 
to devote even to this economically least important industry. 
Beyond this last land at the outer circumference of the grazing 
belt is still more land, F, that in the country's present stage 
of industrial development is economically useless and therefore 
valueless. Under the Homestead Acts lands of this grade may 
be had almost free of charge from the government. Practi- 
cally speaking, it is no-rent land, and so long as any consider- 
able amount of it remains open to settlers it furnishes a no- 
rent margin from which all rent is calculated in the manner 
described below. 
Fertility as jj^ ^j^jg classification more attention has been given to situa- 
mpor a ^-^^ than to fertility or other qualities as a guide to grading 
Situation lands, because it is the phase of the subject most apt to be 
to Rent. neglected. The reader scarcely needs to be reminded that the 
other qualities enumerated in Chapter VIII. are quite as potent 
factors as situation in determining where a piece of land be- 
longs in the economic scale. In the case of lands ' whose 
products are of high value in proportion to their bulk, situa- 
tion counts for little in comparison with the richness of the 
source of supply. This is illustrated by the fact that the gold 
resources of the Klondike are being exploited nearly as rapidly, 
notwithstanding the remoteness of the region, as those of 
Cripple Creek. 
The § 130. To the successive grades of land that have just been 

Demand for (;[escribed the reader must oppose in his imagination the market 
D'ff t ^^^ *^^ goods which land and the other factors of production 
Grades. unite to produce. First comes the demand for lots for business 
purposes. Enterprisers appreciate the importance of location 



INFLUENCE OF DEMAND 233 

as a condition to business success. The best sites are eagerly- 
taken and, as the community grows, new lots are each year 
withdrawn from their old use as residence sites because busi- 
ness men are willing to pay a little more rent for them. Im- 
provements on the land interfere somewhat with the free play 
of this tendency, but even the most substantial buildings 
decay in time and if a broad view be taken there will be found 
enough plots to pass each year from use as residence sites to 
use as store sites to maintain a practical equilibrium. Differ- 
ent kinds of businesses, railway transportation, wholesale and 
retail trade, banking, etc., require lots in different situations, 
and all such differences have their influence on rents. We 
shall not be far wrong, however, in assuming that business 
men require centrally located lots, the lots embraced in the 
inner circle. A, in the figure. In deciding what rent he can 
afford to pay for a given store site, the enterpriser never 
thinks of comparing it with farming land on the outskirts of 
the city. He knows that unless he establishes himself within 
a limited area he might as well not go into business. To him 
marginal lots are not those on the outskirts of civilization 
which he could get for nothing, nor even those on the out- 
skirts of the town whose rent is low, but the choice residence 
lots on the border between grades A and B, for which he must 
pay a high rent because of the demand for them for residences. 
To this marginal rent, which all enterprisers must pay for 
lots in A, is added a differential rent for the better lots cor- 
responding to their superiority. The choicest lot of all yields 
the highest rent, and this is what it adds to the returns of a 
representative firm for a given outlay in wages and interest 
in that line of business which depends most on situation for 
its success, retail trade. The practical determination of this 
rent is a matter of considerable difficulty, and it is doubtful 
if the exact competitive rent is ever paid for such a piece of 
land. Something approximating this amount is paid, however, 
or is charged to the account of rent by the enterpriser who 
owns the site on which his business is located. From this max- 
imum the rents of inferior lots decrease to the marginal 
rents which those on the border command. In each case 
rent figures as one of the expenses of production which 



234 



RENT 



The Calcu- 
lation of 
Rent. 



Summary 
of Expla- 
nation. 



the practical business man counts on recovering in the 
price. 

The determination of the rents of residence lots is effected 
in exactly the same way. From the highest rent of the best 
lot, which corresponds to the lowest rent for a lot of grade A 
land, to the highest rent truck-farmers are willing to pay 
for border lots between B and C, there is the same gradual 
descent, influenced in this case by calculations of utility rather 
than of business returns. To the extent that personal con- 
siderations weigh more in the choice of house-sites than in the 
choice of business locations, these calculations of utility are 
variable, but when we are considering the thousands of people 
of each social class that make up a city population these 
personal eccentricities neutralize one another and may be dis- 
regarded. For those who reside in cities as well as those 
who do business there the choice is not between rent and no- 
rent, but between high rent and marginal rent. Lots to be 
had for nothing are so far away from the places where city 
dwellers earn their livelihoods that they are worth to them 
considerably less than nothing. 

The rent paid by the truck-farmer, or credited by him to 
his land of grade C, obeys the same principles that have 
been outlined. According to the situation, fertility, etc., of 
the land it pays a rent ranging between that which the best 
truck land affords, the marginal rent for grade B, and the 
rent which must be paid for the borderland between C and 
D to keep it from the wheat farmer, or more accurately which 
as wheat land it would afford. Similarly the wheat farmer 
pays a marginal rent to cover what the poorest wheat land 
would be worth for grazing purposes. The grazier himself is 
surrounded by land of a still lower grade, F, which is still 
in the category of free goods. This margin is accordingly 
a no-rent margin and the price of his product need under 
normal conditions merely cover the expense for wages and 
interest on the poorest land on which cattle, sheep and horses 
are raised. 

Summing up this explanation, we may say that rent is paid 
out of the prices which the ' ' products of the soil ' ' command. 
The supply of land of each grade,, except the lowest, being 



RENT OF MINES ^S5 

limited, users of land bid against one another for different 
plots. This competition causes land to be graded in accord- 
ance with its economic importance. The rents paid for lots 
above the lowest grade include a differential element measur- 
ing the superiority of the land in its grade and a marginal 
element common to all land of the grade. Only grazing land, 
or land at the bottom of the economic scale, commands a rent 
consisting only of the differential element. It comes into 
direct comparison with free or no-rent land and the small 
rent it affords measures the narrow margin that separates 
the value of its products from the free goods which may be 
obtained gratuitously through the use of free land. 

§ 131. In the above explanation of rent attention has been other 
confined almost exclusively to land in the narrow sense. The Causes 
rent earned by sources of water power and by mines is de- of Rent, 
termined in a similar way, but deserves separate consideration. 

The utilization of water power involves usually a con- 
siderable outlay of capital, and hence the marginal powers 
used must afford a large return for interest on the capital 
invested even though they yield no rent. In connection with The Rent 
the use of water power situation is also an important factor. ^^ Sources 
It is profitable to use the power of Niagara because it is 
surrounded by a rich agricultural and manufacturing country. 
Much cheaper sources of power are not yet utilized west of 
the Mississippi because other conditions are not favorable to 
the development of industries to which the power might be 
applied. From the marginal source of power in use, which 
affords no rent, the rents of superior or more favorably located 
sources of power are calculated by the familiar comparative 
method. Ordinarily water power is utilized by the enterpriser 
who owns it, and hence its rent appears only as an item in 
his private bookkeeping. Competing with water power are 
steam power, horse power, etc. The price at which any sub- 
stitute power can be obtained for the performance of a given 
industrial task constitutes a maximum above which the rent 
of water power cannot for any length of time be maintained. 

The rent of mines is determined in the same way as the The Rent 
rent of land, except that the marginal mine is not necessarily ° ^"^^' 
one which affords no rent. Since a mine will not renew itself, 



236 RENT 

but by each year's operations is depleted of so much of its 
ore, the rational owner hesitates to work his mine when it 
barely pays expenses. The ore is a valuable asset, and the 
owner is short-sighted who takes it out to sell at cost. In 
practice this consideration is not very important. Mining is 
so uncertain that in nearly every branch of the industry mines 
are operated at cost or even at a loss by men who hope that 
the ore will get richer with depth or that the price of the 
mineral will advance. As a matter of fact, therefore, it is 
usually possible to find no-rent mines producing each variety 
of mineral that comes out of the earth. The rent of better 
mines is measured up from them as a no-rent margin. When 
mines are operated under lease the rent is usually calculated 
as a royalty proportioned to the amount of ore actually re- 
moved from the ground. Under this system when mines are 
operated literally at cost in wages and interest, the royalty 
represents an actual loss to the operator. This is usually an 
effectual bar to the operation of no-rent mines by other enter- 
prisers than those who own them, but since the lease system 
is exceptional rather than the rule, this does not prevent the 
presence of no-rent mines in nearly every branch of the mining 
industry. ' 
Apparent § 132. Thus far in the explanation of rent, we have spoken 

Exceptions ^^ |^j^^| ^^ though it were perfectly graded from best to poorest, 
and have implied that the location of a given piece of land 
in the particular grade to which it belongs is a simple matter. 
There are several well-known facts in regard to land, sources 
of water power and mines which are inconsistent with these 
assumptions, and we must now consider whether these facts 
invalidate the explanation of rent which has been given. 
Existence (1) There is not merely one use to which land is applied 

of Several (^[Q^yjj ^q ^ no-rent margin, but several uses. In the United 
States some wheat is probably raised regularly on no-rent 
land and a good deal of corn is so produced. In these cases 
the rents of better wheat and corn lands are measured from 
the no-rent margin just as are those of the better grazing 
lands. Instead of having one no-rent margin we have several, 
but their collective influence on rent is no different from that 
traced to a single one. 



of Rent. 



No-rent 
Margins. 



APPARENT EXCEPTIONS 237 

(2) In farming in the United States the tendency is more TheRota- 
and more toward the diversification of crops. No one crop is *^o^ °^ 
raised continuously, but different crops are raised in rotation, ^^°P^- 
and the productiveness of the land depends not upon its yield 

of wheat or corn or cotton alone, but upon its yield of all of 
the different crops grown over a series of years. Although 
this greatly complicates the rent problem it does not change 
the principles upon which rent depends. The tendency is still 
to devote each piece of land to the use for which it is econom- 
ically best adapted. If this is diversified farming, then the 
average return in the different crops in the rotation for a 
series of years must be calculated and made the basis for com- 
paring it with other pieces of land. Through the indirect 
process described it will be compared finally with no-rent land 
on the margin, and the surplus return it affords in compari- 
son with no-rent land will be its rent. 

(3) No piece of land yields exactly the sam-e return, even Average 
though cultivated in just the same way, two years together, ^^t]^™ 
The weather is a capricious partner upon which every farmer . 
depends, and as a result of weather changes large crops are Rent. 
sometimes followed by small crops in spite of everything the 
farmer can do. These variations affect rent only by making 

it less a matter of exact calculation and more a matter of 
approximate estimate. Uncertain as is the outcome of each 
year's farming, the average return for a series of years may 
be foretold with a good deal of accuracy. It is these averages 
that should be and are considered in calculating the rent 
properly ascribable to a piece of land. 

(4) Some pieces of land, such as the barren rock of par- I-andfitfor 

One TJsc 
ticular lots in New York City, are well adapted to one pur- 

pose, but unsuited to any other. Yet the absence of possible command 

substitute uses does not prevent such pieces from commanding High Rent. 

often very high rents. This is no real exception to the theory 

as explained. The primary cause of rent is the demand for 

land for the various uses to which it is put. If the possible 

uses are arranged in a scale in the order of their importance, 

then the best land for the purpose will be assigned to use A 

down to the point where a given piece is even better adapted 

economically — will yield a larger return — in use B. The exist- 



238 



RENT 



Other Com- 
plications. 



Invest- 
ments of 
Capital in 
Land and 
Rent. 



ence of some pieces admirably suited for use A which will 
not serve use B or any other use simply lessens the require- 
ments for land for use A that will serve use B. The result 
is that somewhat better land will be available for use B than 
would otherwise have been the case. Land adapted for one 
purpose only, if used at all, is of necessity devoted to 
that purpose and affords a rent depending upon the way 
in which it compares with marginal land used for the same 
purpose. 

Space will not permit a discussion of other apparent ex- 
ceptions to the theory and their explanation must be left to 
the reader's ingenuity. In an industrial society approaching 
the state of normal eciuilibrium competition would assign each 
piece of land to that particular use for which it was best 
adapted, and once assigned each piece would continue to be 
used for the same purpose as long as the state of equilibrium 
was maintained. In such a situation rent would be so con- 
stant that its calculation would be a very simple matter. The 
rent problem is complex in actual industrial society because 
pieces of land are constantly being assigned to new uses. 
New pieces of land are being brought under cultivation or are 
being improved with buildings, while old pieces of land are 
being abandoned or the buildings on them are being destroyed. 
Under these circumstances the calculation of rent can be at 
best but an approximation, and there is latitude for no little 
disagreement as to what should be paid for or credited to each 
piece of land that aids in production. In comparison with the 
gross amount of rent, however, the sums involved in these 
possible variations are small and may without serious error 
be disregarded when the broader problems of economics are 
under consideration. 

§ 133. The difficulty of distinguishing between land and 
capital in the form of permanent improvements has already 
been alluded to. Once made, investments of capital in per- 
manent improvements are merged in the land, and the incomes 
they afford obey the principles just laid down in reference to 
rent rather than those about to be explained as applying to 
interest. For example, consider the return on the investment 
of capital necessary to clear land and prepare it for the first 



CAPITALIZATION OF RENT 239 

time for cultivation. Unless the return promises to be large 
enough to pay the current rate of interest on the investment 
it will not ordinarily be made, but after it has been made the 
cleared land affords an income in no wise controlled by the 
amount of the investment. All the labor of New England 
farmers during the seventeenth and eighteenth centuries in 
clearing their farms of stones and improving them in other 
ways did not avail to check a rapid fall in the incomes they 
afforded to their descendants so soon as they came into com- 
petition with the better lands of the Mississippi Valley. The 
abandoned farms of New England bear eloquent testimony 
to the fact that interest can be continuously secured only for 
capital that may be withdrawn and reinvested as often as 
changes in industrial conditions make this desirable. So soon 
as capital becomes embodied in fixed and unalterable capital ' 
goods, the income it affords ceases to obey the principles de- 
termining interest and becomes subject to the law of rent. 
Most improvements, however, are not fixed and unalterable, 
but wear out and have to be renewed. They require, there- 
fore, a continuous reinvestment of capital, which will only be 
made on condition that the income secured continues to cor- 
respond with the rate of interest to be obtained in other lines 
of investment. In this indirect way the return on perishable 
improvements is adjusted to the current rate of interest. 

§ 134. The rent of a piece of land, whether actually paid The Capi- 
or appearing merely as an item of income in the bookkeeping talization 
of the land-owner, has a determining influence on the price °f ^^^t* 
that can be secured for it. As an investment, land is valued, 
as is any other form of income-producing property, by capi- 
talizing its annual return at the current rate of interest. For 
example, if a given piece of land is found by experience to 
bring in on the average a net rent of $1200, and the current 
rate of interest is 6 per cent, its price will normally be $20,000, 
or the sum which invested at 6 per cent would yield the same 
return. If the rent is only $600 the price will be only $10,000. 
On the other hand, if, in the first case, the rate of interest had 
been 4 instead of 6 per cent, the price of the land would be 
$30,000. The price of land thus varies directly with the 
amount of its rent and inversely with the rate of interest. In 



240 



RENT 



Summary 
of Theory 
of Rent: 

Its Cause. 



Includes a 
Marginal 
as well as a 
Differential 
Element. 



The 

Intensive 

Margin, 



a developing country, like the United States, the probability 
is so strongly in favor of an increase in rents, especially in the 
case of city lots, that shrewd investors are willing to accept 
even less than the current rate of interest from their invest- 
ments in land. In such cases the present value of a lot may 
be the capitalized value, not of its present, but of its prospec- 
tive rent. Land has been on the whole an excellent investment 
in the United States during the last thirty years, in part be- 
cause the rent it affords has so generally risen, but quite as 
much because the rate of interest has fallen and the prices 
of pieces of land have risen even more than the rents. This 
last point must always be remembered in connection with the 
interpretation of statistics showing the growth of wealth. In 
countries experiencing a declining rate of interest there is an 
appreciation of land and other permanent sources of income 
without any corresponding change in the ability of these fac- 
tors to contribute to general well-being. 

§ 135. In concluding the explanation of rent it may be 
well to summarize the principal points brought out in this 
chapter and Chapter VIII. : 

1. Rent is an income which arises in consequence of the 
superior productivity of land above the margin in comparison 
with that at the margin. 

2. Marginal land for some of the uses to which land is put 
is actually no-rent land. More commonly the marginal land 
for any particular use itself affords a rent because, though 
marginal for the given use, it is above the margin for some 
other use to which it might be applied. Rent is thus com- 
posed usually of a differential and of a marginal element. 
The differential element is an expense of production only to 
enterprisers using superior land for the given purpose, while 
the marginal element must be paid by all enterprisers engaged 
in the given branch of production and hence figures as an 
element in the normal expense of production. 

3. In addition to the extensive margin there may be, and 
usually is, an intensive margin, that is, a use of land resulting 
from an additional investment of labor and capital on it 
which affords no rent. The intensive margin of cultivation 
tends always to be a no^rent margin. 



SUMMARY OF THEORY 241 

4. Rent is measured by the method of differences starting A Surplus 
from the no-rent land margin and proceeding from grade to li^come. 
grade until the best and most favorably situated lot for the 
purpose that is economically most important is reached. In 

the aggregate it is the money equivalent of the surplus product 
due to the superiority of the land to which it is credited over 
the poorest land turned to industrial account at the no-rent 
margin. 

5. When best land is superabundant, as is the case in some when 
newly discovered and sparsely settled regions, rent does not There Is 
arise. No Kent. 

6. If the law of diminishing returns did not apply to land, Law of 

it would not arise, as then one piece of land would serve all Diminish- 

purposes for an indefinitely large population. ^^^ 

_ _- . • 1 1 T 1 • J 1 1 Returns. 

7. The nicome yielded by permanent improvements on land 

obeys the same law as income ascribable to the land itself. imDrove- 

8. The price of a piece of land, together with permanent ments. 
improvements embodied in it, is calculated by capitalizing Rent and 
its net money rent at the current rate of interest. A falling Price of 
rate of interest tends, therefore, to enhance the land item in Land, 
the inventory of a community's wealth. 

§ 136. In the foregoing explanation of rent the share of Commercial 

the return that is economically ascribable to land has been re- Not Always 

ferred to, rather than the commercial rent that is in practice 

. , 1 11 T mi • 1 -1 -1 Economic 

paid to landlords. This last is determined to some extent 

by custom and personal considerations between landlord and 

tenant and rarely corresponds exactly with the economic rent. 

In case the commercial rent is less than the economic rent a 

part of the return is retained by the tenant as a gratuitous 

addition to his income from the labor and capital he may have 

invested in his business. On the other hand, if the commercial 

rent is too high the land owner gets not only what the land is 

entitled to, but also a part of the return which should go to 

the land cultivator. In either event the full economic rent 

is present as a part of the income shared between those who 

have an interest in the land either as owner or as user. 

The most familiar mode of determining commercial rent The 

without much regard to economic principles is the so-called Metayer 

metayer system. This is the plan by which the cultivator ^y^^^"^- 



Same as 

Econo: 

Rent. 



Rent. 



242 RENT 

pays half the produce of the year's husbandry to the land 
owner, who furnishes sometimes also seeds and tools, and 
retains only the other half for himself. Cultivating land ' ' on 
shares " after this fashion has long been the custom in Euro- 
pean countries and is common in the Southern States of the 
United States. It has the disadvantage of not adapting itself 
readily to changing conditions which involve changes in eco- 
nomic rent, and has therefore been superseded in the more 
highly developed sections of the country by the system of 
money rents. 

Rent of In connection with the rent of land improved by the erec- 

ui ings ^-Qj^ q£ |3|jii(jiiigs upon it business men are in the habit of 
lumping together into one sum the rent of the land and the 
interest on the capital invested in the buildings and calling 
this " rent." "When a distinction is made between the two, 
the first, or rent proper, is called the ground rent, and the 
second is called the rent of the building. It would be an aid 
to clearness if this mode of division were to become universal, 
but even in its absence an expert appraiser can usually say 
with a good deal of accuracy how much of the gross rent 
for a built-over lot is due to the building and how much 
to the lot itself. Economically the two returns are quite 
distinct. 

Importance § 137. It would be interesting to know just what part of 
the income enjoyed by the inhabitants of a country like the 
United States is properly classified as economic rent, but un- 
fortunately no reliable information on the point is available. 
Most of the land of the country, most of its sources of water 
power and most of its mines are operated by owners rather 
than by lessees. In consequence, calculations in regard to rent 
are largely matters of private bookkeeping, and are made with 
the carelessness which business men permit themselves when 
they come to divide their gross profits into the various items 
which economic analysis distinguishes. Any statement in 
regard to rents as a whole must, in the nature of the case, 
be but a rough guess, except for countries like the United 
Kingdom, where lands, mines, etc., are commonly operated 
under lease and the determination of rents is a matter in 
which two parties are interested. 



of Rent. 



IMPORTANCE OF RENT 243 

According to the British income tax returns, the total in- 
come from lands in the United Kingdom appears to be about 
one-tenth of the total income of the country. We have no 
means of knowing whether the total income ascribable to rent 
in the United States is more or less in proportion than the 
total for the United Kingdom. Since the country is newer 
and its lowest margin of cultivation higher, however, it will 
perhaps be not far from the truth to estimate the rent income 
of the inhabitants of the United States at about one-twelfth 
the total income which they enjoy. The payment each year 
to private property owners of this large share of the country 's 
income for services rendered not by themselves, but by their 
property, is a practice vigorously condemned by many intelli- 
gent students of economics. The most radical modification in 
the present system that has been proposed is that advocated 
by Henry George and his followers under the phrase " the 
Single Tax." The arguments for and against this proposal, 
and other plans for solving the land problem, are considered 
in Chapter XXVIII. 

REFERENCES FOR COLLATERAL READING 

*Marshall, Book VI., Chaps. IX. and X.; *Seligman, Principles of 
Economics, Chap. XXIV.; *Carver, Distribution of Wealth, Chap. V.; 
*Pierson, Principles of Economics, Part I., Chaps. II. and III.; Nichol- 
son, Principles of Political Economy, Book II., Chaps. VIII. and IX.; 
J. 8. Mill, Principles of Political Economy, Book II., Chaps. VI.-IX. 
and XVI.; * Johnson, Rent in Modern Economic Theory, an Essay in 
Distribution; *Taussig, Principles of Economics, Chaps. XLIL-XLIV. 



CHAPTER XV 
DISTRIBUTION: WAGES 

Definition g 138. Wages, as the term is used in eco^iomics, include all 
ofWages. earnings assigned to men for their work, from lowest piece 
wages to highest annual salaries a7id " wages-of -management." 
The problem of explaining such earnings is more complex 
than that of explaining rent because it has to do more directly 
with living men and women. As in the case of rent, it involves 
an explanation of differences in earning power among differ- 
ent factors in production. In the United States some workers 
receive as compensation for their work not more than fifty- 
cents a day, while others are paid salaries of $50,000 a year 
and upwards. Such differences must be accounted for in a 
theory of wages. In the case of rent an explanation of differ- 
ences in the shares assigned to different pieces of land is a 
sufficient explanation of the phenomenon because these differ- 
ences are measured from marginal land, which affords no 
rent.* The same is not true in the case of wages. Marginal 
workmen earn something, and after all differences in earnings 
have been explained it still remains to account for marginal 
or least earnings. Another cause of difference between the 
two problems is that while the land supply of a country is 
relatively fixed and unalterable, its labor supply or its work- 
ing population is constantly changing. The continuance year 
after year of high rents for certain pieces of land and of low 
rents for others, excites no surprise, but the continuance of 
differences in wages seems to need special explanation. Why, 
as generation follows generation, are not all men molded 
through an evolutionary process to one common type, so that 
differences in earning power are eliminated? This is a third 
distinct question presented by the wages problem. The pres- 

* The circumstances which determine the location of the margin of 
cultivation must also be explained, of course. Cf. Section 156. 

244 



CAUSES OF DIFFERENCES 245 

ent chapter is confined to an explanation of differences in rates 

of wages and of the reasons for the perpetuation of such 

differences. The explanation of the rate of pay that goes to 

marginal workmen follows in the next chapter. 

§ 139. Most differences in rates of wages may be explained Differences 

in the same way that differences in rent are explained. The ^^ ateso 

Wacres Sue 
demand of consumers calls for the production of certain goods. ^^ unequal 

Enterprisers, taught by the industrial experience of the past, capacities 
determine how the available productive factors shall be cor- of Work- 
related for the purpose of satisfying so far as possible this "^^^• 
demand. The organization of industry which results, calls 
for workers of different capacities for different tasks, just 
as it calls for different grades of land. These capacities are 
graded according to their economic importance, which de- 
pends, on the one hand, upon the field there is for their exer- 
cise and, on the other, upon the number of men possessing 
them that are available. Having in mind present methods of 
production and the present working population of the United 
States, we may distinguish the following five grades of work- 
ers: (1) men having superior capacity for planning and 
carrying out large industrial undertakings, good administra- 
tors and talented artists and professional men; (2) men com- 
petent to succeed in smaller undertakings or to administer 
large affairs as subordinates, artists and professional men of 
average ability and highly skilled mechanics; (3) men trained 
for ordinary clerical or mechanical labor; (4) men without 
special training, but having the requisite strength and en- 
durance for manual labor; (5) men lacking some of the 
mental or physical qualities essential to continuous labor of 
any kind. This classification is illustrative rather than ex- 
haustive. To be complete it would have to recognize hundreds 
of different grades of productive capacity instead of five, and 
to be repeated for each territorial division of the country. 
It is intended to include only economic men and women, and 
not the unfortunate dependents who are incapable even of 
the humblest self-support. 

Just as in the land scale the area adapted by situation and 
other qualities for the most important industrial uses is ex- 
ceedingly limited, so in the scale of workers the number of 



246 



WAGES 



Differences 
Gaged in 
Same Way 
as in Case 
of Rent. 



Relation 
Among 
Different 
Groups. 



men fitted for the highest grades of labor is very small. In 
each branch of production and in each profession in every 
community some one man is found at the top. Unusual capac- 
ity may not be the only cause of the ascendency of such men, 
but unless it is present they will not be able for any length 
of time to hold their positions. Below the men of highest 
capacity for their chosen work are others of inferior ability, 
down to the marginal men in the group who find it just worth 
their while to continue to serve in their particular positions 
rather than to take up alternative employments of what we 
have called grade two. The earnings of the abler men in the 
group are determined by the comparisons that are constantly 
being made between their efficiency and that of the marginal 
men, who are just induced by their pay to stay where they 
are and not to turn to other occupations. Superior men re- 
ceive the pay of the marginal men and in addition a differen- 
tial corresponding to their superior efficiency. 

The earnings of workers in the lower grades are determined 
in the same way as those of men in grade one. Competition 
acting through, and also upon, enterprisers, tends to assign 
to each worker above the margin in grade five, wages made 
up of both a marginal and a differential element. The mar- 
ginal element is what the poorest worker in the group could 
earn in the best-paid alternative employment open to him. 
Unless this at least is paid, the alternative occupation will be 
preferred and the scale will have to be readjusted. Here, as 
in the case of pieces of land, individuals without any power 
of substitution, but who are proficient in their special tasks 
in comparison with others doing the same tasks and having 
such a power, are as well off as though they had it themselves. 
For example, if of a number of college professors receiving 
salaries of $4000 a year each, some could earn as much or 
more in business positions and were hesitating whether to 
make the change, their power of substitution would serve to 
prevent any reduction in professors' salaries even though the 
others were quite unfit for any other kind of high-grade work 
than that they were doing. 

In addition to this marginal element there is a differential 
element corresponding to the superiority of each worker in 



DIFFERENT GRADES OVERLAP 247 

Ms grade. In practice the determination of this differential Tendency- 
element in wages is a complex process except where piece- Toward 
wages are paid, when it adjusts itself automatically. There 
is a tendency for whole groups of workmen, especially those ^^^^ ^^ 
organized in trade unions, to demand uniform wages. This wages, 
policy prevents employers from hiring workers who do not 
come up to a certain standard of efficiency, but it also pre- 
vents superior workmen from receiving the differential wages 
to which they are economically entitled. In the occupations 
in which uniform wages for all workmen of each grade pre- 
vail, however, the work is usually so simple that individual 
differences count for relatively little and the differential wages 
which would result if competition were entirely free are a 
negligible element. 

§ 140. The above analysis implies that the world's workers Different 
may be arranged in a gradually descending scale and that "^^^^^ 
there are no breaks separating adjacent individuals and classes. 
It is assumed that men doing the same kinds of work may be 
compared readily, so that the differential wages to which they 
are entitled may be determined ; also that the marginal men 
in each employment are just held where they are by the 
payment of as high or slightly higher wages than they could 
earn in alternative employments. While this is true as a 
general picture, it must be admitted that the step from one 
employment to that next higher in the scale is often a long 
one. This is particularly the case with the step from the 
tasks of unskilled to those of skilled workers and with that 
from skilled manual workers to brain workers. Instead of 
saying that there is one scale of workers it would be more 
accurate to say that there are three different scales. The 
scale for brain workers begins at the highest point and breaks 
off not just where the scale for skilled manual workers be- 
gins, but somewhat lower. That is to say, the compensation 
of brain workers of the lower grades, bookkeepers, for ex- 
ample, is no greater than that of manual workers of the 
higher grades. In the same way the scale for unskilled work- 
men, which begins low down, runs parallel to the scale for 
skilled workmen of the lower grades for a time and then 
continues to the lowest margin. Unskilled workmen of the 



248 



WAGES 



Some 
Workmen 
Below the 
Margin in 
Their 
Group. 



Indi- 
vidual's 
Efficiency 
Depends 
on Right 
Choice of 
Occupation, 



higher grades earn as high wages as skilled workmen of the 
lower grades. It follows that the alternatives open to brain 
workers toward the lower end of the scale are a lower grade 
of brain work or a comparatively high grade of skilled labor, 
and those open to skilled workmen of low grade are still 
inferior skilled or comparatively high-grade unskilled labor. 

It is not always true, as we have assumed, that the least 
efficient or marginal workers in each group have alternative 
occupations which maintain the level of their earnings. Just 
as it frequently happens that men who are superior in their 
given branch are competent to do nothing else, so it sometimes 
happens that men competent to do nothing else are at the 
very margin of efficiency for the work they perform. The 
earnings of such marginal men are fixed by a comparison of 
their work with that of abler men in the same branch of 
production to whom alternative branches are open. The 
options of the latter fix the return for that class of services 
to all the workers in their group. In extreme cases, as, for 
example, in the sweating industries, it sometimes happens 
that a group of workers competent to do all of the work of 
a given sort for which there is a demand are competent to 
do only that kind of work. Under such circumstances com- 
petition within the group may reduce wages to a starvation 
level and keep them there until the demand for the product 
increases or the number in the group is reduced. 

Free competition, which serves fairly well to assign differ- 
ent pieces of land to the uses for which they are best suited, 
is much less successful in so assigning different workers. The 
different qualities which make a man efficient or inefficient 
(Section 76) are themselves developed by the kind of work 
which it falls to his lot to perform. Thus unless a man is 
fortunate in his initial choice of an occupation, he may never 
have a chance to display his real capacity. All his life he may 
do uncongenial work ineffectively, when, under more fortunate 
circumstances, he might in some other field have achieved the 
highest success. 

Full weight must also be given to the fact that, as industrial 
society is now organized, " pull " is often more important 
than " push " in helping a man to get on in the world. Com- 



SUMMARY 249 

petition is fairly effective as a means of eliminating the unfit, Unequal 

but complete equality of opportunity rarely prevails in the Opportuni- 

selection of those who are to be given a trial. Influence en- ^^^ ° 

ables some to step without effort into important positions, 

which others, even better fitted for them, can only rise to, 

if at all, after long and painful struggle. The differences in 

the earnings of different workers in actual industrial society 

are due to these considerations nearly, if not quite, as much 

as to the more narrowly economic influences made prominent 

in the preceding analysis. That analysis explains what would 

be true if equality of opportunity prevailed. To the extent 

that this ideal is not yet realized — and as to this each reader 

must decide for himself — the conclusions it suggests must be 

qualified and corrected before they can be applied to the 

solution of practical problems. 

§141. The assumption that the working population of a Number of 
country like the United States is divided up into a few groups ^^ ^^ 
is helpful, but, as already stated, the actual number of groups i_^j._g ^^ 
is legion. In recapitulating the explanation of differences in practice, 
wages it will be well to describe the labor market with all of 
its complexities. On one side, then, is the scale of tasks to 
be performed, determined in part by the demand of con- 
sumers for goods and in part by the organization of the pro- 
ductive factors adopted after generations of industrial ex- 
periment. On the other, is the working population divided 
up into hundreds of different groups corresponding to the 
diverse tasks to be performed. The wages paid to those per- 
forming the tasks highest in the economic scale are high. 
They must be so to keep such men from other tasks they might 
undertake and also to induce them to serve one employer 
rather than another in their particular tasks. The former 
possibility fixes a marginal wage which all men performing 
the given sort of work must receive. Competition among em- 
ployers adds to this marginal wage a differential element, 
measuring roughly the superiority of the better men over those 
who are just good enough to be retained in their positions. 
As the scale descends from group to group similar relations 
are found to prevail at every point. Each man's wages con- 
tain a marginal element determined by his own power of 



250 



WAGES 



Higher 

Wages 

Measured 

from 

Marginal 

Wages. 



The Rate 
of Wages 
Depends on 
Relation 
Between 
Demand 
and Supply. 



substitution or by that of some other worker in the same 
group. If he is superior to the marginal men of his group, 
his wages will be higher by a differential element roughly 
gaging his superiority. If inferior, as sometimes happens, 
his differential will be in the form of a deduction from the 
wages which more capable men, doing the same sort of work 
and with the power of substitution, receive. 

At the lower end of the scale marginal wages will be re- 
ceived which are not determined by what is paid in alter- 
native employments because there are none, or at least none 
in which workers are actually employed. From these lowest 
w^ages, which are still to be accounted for, all higher wages 
are at last analysis measured. They are a minimum to which 
the differential in the lowest group is added to determine 
the marginal earnings enjoyed in the next higher group. To 
this another differential is added in the next higher group 
to determine the next higher margin, which figures in turn 
with another differential in determining a third margin. 
Thus by successive steps, like a flight of stairs broken by 
frequent landings, the highest earnings of all are finally 
attained. In this explanation the word, " determine," is 
used, it should be clearly understood, in a relative sense. 
The ultimate determinants of wages — the prices consumers 
are willing to pay for the products of industry, the organiza- 
tion of the productive factors, etc. — are not here under con- 
sideration, but only the influences which relate to one another 
the different rates of wages, from highest to lowest, which 
constitute the prevailing wage scale. 

In conclusion it should be emphasized that the earning 
power of each worker depends on two circumstances neither 
of which should be lost sight of in a discussion of wages. 
These are the appreciation in which the goods he helps to 
produce are held by consumers and the number of workers 
competent to engage in such production as his competitors. 
Rare combinations of industrial qualities command high wages 
if the goods that may be produced through them are in de- 
mand, but otherwise not. Even rather common combinations 
of qualities may command high wages if the field for their 
exercise is large. The highest earnings go to those who have 



IMMOBILITY OF WORKERS 251 

unusual qualities for which there is great demand. On the 
other hand, the lowest go to men who have only ordinary 
abilities of a sort for which the demand is limited. Great 
administrators, like railroad presidents, get high salaries be- 
cause there are many positions to be filled and few men com- 
petent to fill them. Sewing women, on the other hand, earn 
very little because there is little work for them to do in com- 
parison with the number ready to do it. In neither case is 
the difficulty or ease of the work to be done the chief influence 
determining the pay which it commands. A multiplication 
of the men competent to be good railroad presidents would 
serve to reduce the salaries attached to such positions, even 
though there was not the least change in the nature of the 
work required. In the same way, a reduction in the number 
of serving women would serve to increase the earnings of 
those who remained, although they worked no longer or better 
than formerly. 

§ 142. Competition tends to bring the wages of workers Differences 

having the same industrial qualities to a level within each ^^ ^^^^ 
11 1 . . • 1 • 1 1 ■ 1 • Perpetuated 

labor market, just as it serves to cause identical goods withm byimmo- 

a goods market to sell for the same prices. A labor market biiityof 
; is, however, more restricted than a goods market. As Adam Workers. 
j Smith long ago remarked, '' a man is of all sorts of luggage 
I the most diificult to be transported." The free movement 
- of workers from positions where they are ill paid to positions 
II where they are better paid, which is essential to free competi- 
tion, is confined within narrow territorial limits. Ties of 
• love, family associations, habit or sheer inertia hold most men 
to the localities in which they were born, despite the allure- 
ments of higher earnings in other places. There is, to be 
sure, a type of man to whom the attractiveness of new ex- 
periences in new surroundings is even greater than that of 
home, and in countries in which this type is common com- 
petition among workers is active over a wide area, with less 
wide differences in the rates of wages paid to workers of the 
same efficiency in different regions as its result. But even 
in the United States, where, according to the census returns, 
one-fifth of the native born live in other states than those in 
which they were born, this type is rare, especially among 



252 WAGES 

workmen of the lower grades, and differences in wages among 
different sections persist for many years. These differences 
would doubtless disappear in a few generations if new regions 
were not constantly being opened up and if new methods of 
production calling for a different distribution of the working 
population were not constantly being introduced. But so long 
as these changes occur on any considerable scale differences 
in wages may be expected to continue. Improvements in means 
of transporting workers and their belongings and of trans- 
mitting intelligence tend to widen the labor market and may 
in time make it as wide as the whole country. There seems 
little likelihood, however, that the barriers that now oppose 
the free movement of population among different countries, 
and by so doing perpetuate differences in rates of wages 
among nations, will be overcome for many centuries. Econ- 
omists describe the unwillingness of workmen to seek the 
market which promises the highest wages as the immobility 
of labor. This immobility must always be kept in mind as a 
chief circumstance preventing that distribution of the labor 
force of each country, and even more of the whole world, 
which would yield the largest productive results. From the 
point of view of distribution it causes some labor markets to 
be over-supplied relatively with the different grades of workers 
for which there is a demand and forces such workers to 
content themselves with proportionately lower wages. 
Efficiency § 143. In judging of the extent of differences in the rates 
and Time ^^ wages paid in different localities care must be taken to 
nn!.+r!ctA,i compare workers of equal degrees of efficiency. From the 
point of view of the enterpriser it is not the time or effort 
of the worker for which wages are paid, but the work done. 
He is interested not in the wages per hour, per day or per 
week of his employees, but in the expense per unit of what 
they accomplish. If of two workmen working side by side 
one accomplished in a given time twice as much as the other, 
his wages should be twice as high to make the expense of his 
labor to his employer the same as that of the other workman. 
Free competition in the labor market tends to equalize the 
expense of labor or efficiency-wages, but not time-wages, ex- 
cept for workmen who are equally efficient. The industrial 



Contrasted. 



OTHER CAUSES 253 

world presents many examples of differences in wages paid 

for the same kind of work due to differences in the efficiency 

of the workmen. The very low earnings of the Indian coolie, 

for example, are due in part to his very low standard of 

efficiency in comparison with workers of the white race. Even 

if the congestion of population in India could be relieved the 

low industrial efficiency of the people would remain a cause 

of relatively low wages. 

§ 144. Thus far, in considering the more important reasons Other 

for differences in wages, we have assumed that the money Causes of 

. - Siffcrciiccs 
return is the only inducement which controls the competition . 

of workmen. If this were the case competition would, as has 
been stated, tend to make the earnings of workers of equal 
efficiency the same in each labor market. But, as a matter 
of fact, men do not consider the money return which an 
occupation promises merely, but all of the advantages and 
disadvantages connected with it. The principal other con- 
siderations which offset and consequently help to perpetuate 
differences in money wages are the following: 

(1) It is not money wages, but real wages, that are com- Differences 
pared, and real wages vary with the expensiveness of living ^^ _ * °^ 
in different localities. In country districts the goods which 
wage-earners of the lower grades consume are usually cheaper 

than they are in cities. Hence low money wages in the 
country may stand for the same real wages as high money 
wages in the city. An equally favorable comparison may be 
made between the cost of living in a warm and in a cold 
climate. In the former houses need less to be heated, fewer 
clothes and less food suffice and the number of free goods 
is larger. This is one circumstance tending to keep money 
wages lower throughout the Southern States in the United 
States than they are in the North. 

(2) Some occupations require longer apprenticeship and Expense of 
more expensive training than others. In comparing differ- I-earning 
ent occupations men normally take account of the time and ■'■'^^^®* 
capital that must be invested in preparatory training, and 

unless the earnings in the industry requiring special prepara- 
tion promise to be large enough to repay them for the in- 
vestment, they will not make it. In practice capital invested 



254 



WAGES 



Ease or 
Difficulty 
of Work. 



Hazard 
Involved. 



Chance of 
Success or 
Failure. 



Social 
Esteem. 



in training affords a very high return because so many of 
those who might benefit most from training are too poor to 
obtain it. 

(3) Occupations differ in the ease or difficulty of the work 
required. The harder and more disagreeable the work the 
higher must the wages be to attract men from easier tasks. 
This does not mean that those who do the most disagreeable 
work are the ones who are most highly paid. It often happens 
that men who do such work have not the option of doing 
something easier, and when this is the case their earnings 
may be very low. Whenever they have such an option, how- 
ever, the wages paid for the most arduous toil must fully make 
up for the difference or it will fail to attract its quota of 
workers. 

(4) Some positions are more dangerous than others and 
must offer a premium to cover life and accident insurance, 
in addition to mere wages, to attract workmen from safer 
trades. Unfortunately in practice wage-earners are only too 
apt to ignore the risks they run. Each one looks upon himself 
as an exception, immune from the hazards to which his 
fellows are exposed. Conseciuently the influence of the risks 
connected with an employment on wages is much less than 
would be anticipated on abstract grounds. 

(5) The chances of success and the rewards of success are 
different in different occupations. In the professions, espe- 
cially, " nothing succeeds like success." The more clients 
or patients a man has the more eagerly he is sought by addi- 
tional clients and patients. It results from this that successful 
professional men are as a rule successful even beyond their 
deserts. The hope of similarly large incomes attracts into 
professional callings more men than the businesses require. 
This reduces the average earnings in these occupations. In 
the United States professional men undoubtedly receive smaller 
average incomes than do men of equal ability and training 
engaged in commercial enterprises, and partly for the reason 
just given. 

(6) Some positions are held in high esteem and offer social 
advantages to compensate for lower earnings. This is true 
usually of professional work and serves, like the previous 



INDIVIDUAL DIFFERENCES 255 

influence, to depress the money earnings of professional 
men. 

(7) The regularity of employment must always be con- Regularity 
sidered. Trades like those connected with building, which of Employ- 
give employment only part of the year, must, to equalize ™^^ ' 
advantages, offer higher day wages than those which occupy 

men continuously. 

(8) The chance of advancement and promotion must also Chance for 
be taken into account. Employments which lead to nothing P^'omotion. 
should afford better pay than those having educational value 

and serving as steps in a gradual ascent to higher posi- 
tions. 

These and other similar considerations will readily be Finally 
accepted as reasons for differences in wages that are inde- -^^^ 
pendent of differences in men. Taken together they come so ^^ ^• 
near to explaining all differences in wages that some writers 
have assumed that but for them competition would in time 
bring the money wages of all grades of workmen to one uni- 
form rate. This would certainly be true if competition were 
perfectly free and equal, that is, if all men were sufficiently 
alike to turn readily to the occupations that offered the largest 
returns. Under such circumstances the working population 
would move away from industries which paid low wages and 
toward industries which paid high wages, until the decreased 
labor supply in the former advanced earnings and the in- 
creased supply in the latter reduced them to the uniform 
rate. But, as we have seen, men are not alike in their in- 
dustrial qualities. We must now inquire why the progress 
of evolution does not make them alike by gradually eliminat- 
ing all but those of the highest industrial type. 

§ 145. A complete answer to the above question would influence of 
carry us outside the field of economics into that of biology, heredity in 
Men are unlike, in part, because they are born so. And 
though the struggle for existence tends to eliminate types 
so unusual as to be incapable of self-support, within the limits 
fixed by the necessity of survival, hereditary differences in 
capacity seem to be transmitted generation after generation 
without appreciable check. 



256 WAGES 

Influence of If heredity were the only factor in determining character 

Habit, ^^^ capacity, the adjustment of the supply of workers of 

„, ^. different grades to the demand for them would be largely 
Education. = ° "^ 

outside of society's control. But most students agree that 
education, which includes all of the formative influences act- 
ing upon human beings from without as they pass through 
life, is an equally important force. Adam Smith went so far 
as to say that " the difference between the most dissimilar 
characters, between a philosopher and a common street-porter, 
for example, seems to arise not so much from nature as from 
habit, custom and education." A similar view was expressed 
recently by a Chicago judge who had had much experience 
in dealing with youthful criminals. "When asked if he thought 
that his own children would have been criminals if they had 
been brought up in criminal surroundings he replied : " I 
don't think so, I know it." Except as regards abnormalities 
both in the direction of genius and imbecility the view that 
" habit, custom and education " have more to do with differ- 
ences in men than " nature " seems to be justified by ob- 
servation. In any case it is chiefly through education that 
men act in their efforts to fit their children for industrial life. 
Differences § 146. Education being such an important influence in 
in Stand- molding industrial capacity, a partial explanation of differ- 
. . ences in capacity must be sought in differences in the educa- 

Perpetuate tional opportunities that are offered to the children of different 
Differences "families. Notwithstanding the self-sacrificing devotion of 
in Wages: nearly all parents to the interests of their children and not- 
withstanding improvements in free public educational insti- 
tutions, such differences are still great, even in the United 
States. Their perpetuation is due in large measure to the 
different standards of living which control the conduct of 
Definition different industrial classes. By the standard of living is meant 
of standard fji^ mode of activity and scale of comfort ivhich a person has 
of Living, ^^^-jg fg regard as indispensable to his happiness and to secure 
and retain which he is willing to make any reasonable sacrifice, 
such as working longer, or postponing marriage. 

The influence which differences in standards of living have 
on the educational opportunities which children enjoy may 
be observed on every side. Compare, for example, the lives 



CONTRASTING EDUCATIONAL OPPORTUNITIES 257 

of typical children of well-to-do parents with those of the Educational 

children of ordinary manual laborers. The former enjoy, in Oppo^'tuni- 

infancy, the watchful care of intelligent mothers and the best „, .,j 

'' : . ° Children of 

of medical attendance in times of illness. They are less apt weli-to-do 

to be forced in their development and more certain to be and of 
supplied with nourishing food, pure air and the other requi- Manual 
sites to healthful growth. Arrived at school age, unless the I-a-borers 
public schools in the locality are superior, they will be sent 
to less crowded private schools. Even more important is the 
fact that the sons of the well-to-do are under no pressure 
to leave school when they attain the age of fourteen or fifteen, 
because their earnings are not needed to swell the already 
ample family income. They will go through the high-school, 
at least, before choosing their occupations, and they are very 
likely to take courses in college and even subsequent technical 
or professional courses if they have a bent in either of these 
directions. At length, arrived at the period when they are 
ready to enter some regular occupation, family influence will 
usually be able to command favorable openings for them and 
the same influence will often facilitate their advancement. 
Meantime the standard of living of their parents has im- 
pressed itself upon their minds and characters. They have 
learned to regard a large income as essential to well-being and 
to appreciate the advantages of property. Though the sons of 
well-to-do parents sometimes show a tendency to recklessness 
when released from the restraints of school life, most of them 
learn prudence without ever having tasted the fruits of im- 
providence. They know that a certain income is indispensable 
to what they consider decent single existence and that a some- 
what larger income must be assured before marriage is to be 
thought of. Young men mindful of the expenditures of their 
girl friends are restrained by a sense of chivalry from propos- 
ing marriage until they can provide advantages at least equal 
to those enjoyed at home. On their side young women in the 
group have definite ideas in regard to the cost of maintaining 
a household and are quite as prudent in their attitude toward 
matrimony. In consequence rash matches among young people 
of this class are few, and young men are usually well estab- 
lished before they incur the responsibility of providing for a 



258 WAGES 

family. This postponement of marriage results in a low birth- 
rate for the class as a whole, which, by lessening the number 
trained for the higher professional and industrial positions, 
helps to maintain the earnings which holders of such positions 
are able to command. 

Very different from this is the life history of typical 
children of the manual laboring class. In consequence of 
early marriages, facilitated by the fact that manual laborers 
attain their full earning capacity at the age of nineteen or 
twenty, children come in this class before the parents have 
themselves reached maturity. Their number, and the rude 
way in which the family is compelled to live, prevent the 
mother from giving them the attention that their best interests 
demand. As these children approach the age when they can 
go to school they are allowed to spend more and more time 
on the streets and to acquire that precocious knowledge so 
destructive of the idealism natural to childhood. In school 
their progress is retarded by the lack of that stimulus and 
encouragement on the side of parents that is so helpful to 
children reared in more fortunate circumstances, and, just 
as they are getting old enough to form judgments for them- 
selves, their help is needed at home, or jobs are secured for 
them, and the formal part of their education is brought to 
an abrupt close. In the choice of their occupations immediate 
earnings are likely to be determining and consequently, in- 
stead of being apprenticed to skilled trades, they more often 
than not follow their fathers and become manual laborers. 
Made bread-winners thus early in life, they are apt before 
they are twentj^ to find the restraints of home irksome, and 
to resolve to create homes for themselves as soon as their earn- 
ings come up to the low standard to which they are accus- 
tomed. Acting on such resolutions they follow in the foot- 
steps of their parents, as their children are likely to follow 
in their footsteps. Thus the children of manual laborers, like 
the children of the well-to-do, are largely influenced in their 
life careers by the standards of living to which they happen to 
be born. 

§ 147. A more complete study of the characters and habits 
of different groups of workers would confirm the conclusion 



NEED OF FREE PUBLIC EDUCATION 259 

suggested by the above comparison, that is, that the persist- Reasons 

ence of differences in industrial capacities among individuals Why More 

is due chiefly to differences in educational opportunities which ^ ^'^ ' 

vested in 
are due m turn to differences in standards of living. But, it Education 

may be asked, if education is so important a cause of the 
differences in the earning powers of different men, and if 
acquiring education is simply one way of investing capital 
for a future return, how does it come about that more capital 
is not invested in this way? The answer is simple. Those 
to whom the education would be invaluable are too young or 
too ignorant to appreciate the fact or are without the capital 
to invest. Their parents are also without capital and have, 
moreover, a less direct personal interest in the result. Men 
with capital, on the other hand, do not invest it in the educa- 
tion of other people's children, except as a charity, because 
there is no form of contract under which they could claim a 
part of the return. Those needing education cannot, as 
minors, legally contract, nor can their parents bind them, 
except within certain limits, during the period of their 
minority. 

It follows from the above considerations that for all but Necessity 
the children of the wealthy such education as is enjoyed must ^"^ ^^^^ 

be public and free. For the community as a whole, the in- ^ ^'^ 

. . Education, 

vestment of capital in educational opportunities tending to 

add to the industrial capacity of boys and girls is a certain 

means of adding to the collective wealth. Capital so used, 

especially to inculcate higher standards of living and efficiency 

among children of the poor, yields a princely return and will 

continue to do so until the present inequalities disappear. It 

is therefore to the community, and to improvements in the 

free schools, free colleges and free universities, that we must 

look for the removal of the disadvantages under which the 

children of the poor now labor. To remove them completely 

it will be necessary not only to improve schools, colleges and 

universities covering all branches of technical and professional 

training, but to raise the standards of parents so that they 

shall be eager to have their children enjoy the best advantages 

and to provide in some way for the maintenance of children 

whose parents cannot afford to support them during their 



260 WAGES 

years of study and preparation. The mere mention of these 
needs re-enforces what has been said of the present lack of 
equal educational opportunities. 
Conclusion. Summing up the results of our analysis, we must conclude 
that the industrial population consists of various groups of 
workers whose differences in fortune and in standards of 
living are reflected in unequal educational opportunities which 
serve to perpetuate, generation after generation, the differ- 
ences in wages explained in previous sections. The picture 
drawn appears somewhat exaggerated for the United States 
at the present time, because the country is comparatively 
new and undeveloped. The exploitation of natural resources 
still offers a wide field for the adventurous and prevents, while 
it continues, that rigid stratification into economic classes 
that is found in the older countries of the world. But such 
a stratification already appears in the United States and it 
will show itself more and more clearly as the natural resources 
of the country come more completely under private ownership, 
unless the tendency in this direction is successfully opposed 
by a broad and vigorous social policy. In spite of it there 
are even in the older countries referred to many individual 
exceptions to the rule that children remain in the economic 
class to which they were born. Persons of great native ability 
rise to positions suited to their capacities despite all obstacles. 
On the other hand, all advantages seem wasted on other per- 
sons who from innate stupidity or perverseness are incapable 
of deriving benefit from them. These exceptions are of much 
more significance to the moralist than the more commonplace 
careers that have alone received attention in the preceding 
analysis. They justify the familiar assertion that each one's 
success in life depends mainly upon himself, but they do 
not alter the more fundamental truth that the sort of self 
one is depends upon heredity and education and that differ- 
ences in educational opportunities are a chief cause of the 
differences in wages which it is the task of economics to 
explain. 

§ 148. The causes of differences in rates of wages and of 
their persistence, generation after generation, have been ex- 
plained in the preceding sections and it remains now to. 



REFERENCES 261 

account for the earnings that are enjoyed by marginal work- TheDeter- 

men, which are the minimum from which all higher earnings mination of 

are measured. The thesis that we have proposed to defend *^^ "^ 

. . . Wages. 

is that under conditions of free, all-sided competition the 

earnings of marginal, as of other, workmen tend to correspond 

accurately to the contributions which they make to production. 

To gage this contribution we must pass now to the discussion 

of interest, the last share in distribution. The different factors 

in production cooperate in all productive processes. The 

product is a joint-product and we can determine the share 

of it that is economically ascribable to each factor only after 

we have clearly perceived the basis on which the claims of all 

of the other factors rest. In the next chapter we have to 

explain interest and differences in rates of interest by an 

analysis similar to that we have applied to profits, rent and 

wages, and then to consider how the comparisons are made 

by which the proportionate share of each factor is determined. 

REFERENCES FOR COLLATERAL READING 

*Clark, Essentials of Economic Theory, Chap. VIII. ; *8eligman, 
Principles of Economics, Chap. XXVI. ; *Fetter, Principles of Economics, 
Chap. XXIII.; *Carver, The Distribution of Wealth, Chap. IV.; 
*Bulloclc, Selected Readings in Economics, Chap. XVIII., § 3 ; * Marshall, 
Principles of Economics, Book VI., Chaps. III.-V.; * Taussig, Principles 
of Economics, Chaps. XLVII. and XLVIII. ; Schoenhof, The Economy of 
High Wages, Part I.; Pierson, Principles of Economics, Part I., Chap. 
VI.; Thompson, The Theory of Wages and Its Application; *Adam 
Smith, Wealth of Nations, Book I., Chap. VIII. and Chap. X., Part I. 



Definition 
of Interest. 



Nature of 
Problem. 



Prelimi- 
nary Ex- 
planation. 



CHAPTER XVI 
DISTRIBUTION: INTEREST 

§ 149. Interest has already been defined as what is paid 
for the use of capital. From the point of view of distribution 
it is the share of income that is assigned to capital goods, or 
more accurately to the owners of such goods, for the part 
these play in production. The great variety of capital goods 
and the diversity of the services which they render were dis- 
cussed in a previous chapter (Section 83). As there ex- 
plained (Section 78), the creation of capital goods requires, 
in addition to the factors involved in all production, saving, 
abstinence and waiting. Those who convert their incomes into 
capital instead of spending them contribute to production in 
these ways just as truly as do workmen by their activities. 
And, just as " labor in and for itself is not valuable " but only 
" because through it valuable goods are produced " (Section 
105), so capital goods are only valuable because they too assist 
production. 

The problem of interest, like the problem of wages, is three- 
fold. First, the phenomenon itself must be accounted for, 
that is, it must be explained why from the gross money re- 
turns of industry there is normally assigned to the owners 
of capital goods, over and above the replacement fund which 
makes up for any depreciation in value which these goods 
sustain, the share or income which we have called interest. 
Second, differences in the proportionate shares, or in the rates 
of interest, assigned to the owners of equally valuable stocks 
of capital goods of different kinds must be accounted for. 
Third, the causes determining the marginal or current rate 
of interest must be explained. 

§ 150. Touching no portion of economic theory has there 
been so much discussion or difference of opinion as touching 
the reasons for the payment of interest. Yet the explanation 

263 



PRELIMINARY EXPLANATION 263 

of this payment must follow the same general lines as the 
explanation of other shares in distribution. A preliminary- 
statement of the theory of interest at this point is designed 
to clear the way for the consideration of difficulties and com- 
plexities to be dealt with later. 

A very common and seemingly simple form of the interest Interest on 
problem is presented by the payment of interest on money Bank Loans 
loans. Why, for example, are savings banks willing, not only ^ ^^^^^ 
to become the unpaid custodians of money deposited with 
them, but also to return with each deposit an additional sum, 
$104, say, at the end of a year, in place of the $100 originally 
received? Every one knows enough about the business of 
savings banks to answer this question correctly. They are 
willing to pay moderate rates of interest because they are 
able to loan the money received on deposit at higher rates 
to the business community. Interest on money loans is a 
derived form of interest.* To explain it fully the economist 
must go behind it and explain why business men are willing 
to pay interest for the use of borrowed money. A superficial 
answer to this second question is also easy. Business men are 
willing to pay interest because they know that by converting 
the money borrowed into the capital goods appropriate to 
their businesses they can get back the interest promised and 
enough more to make the transaction worth while. This 
brings us then to the essence of the interest problem — to ex- 
plain how it comes about that capital goods will normally 
earn something for their owners over and above their own 
replacement fund. 

As so often in our discussion of distribution, so now in The Source 
explaining the phenomenon of interest, we must begin by of Interest 
asking the reader to oppose in his imagination the demands . Produc- 
of consumers for consumable goods and the available supplies q^^^^^^^^ 
of the factors that cooperate in-the production of such goods. 
Current methods of production assign a highly important 
place among these factors to capital goods — tools, machines, 
buildings and the other produced means to further produc- 
tion. By their aid the fruitfulness of human industry is 

* Interest on money loans is discussed at more length in the chapter 
on Credit and Banking (Section 194). 



264 INTEREST 

enormously increased. This is equivalent to saying that any 
increase in the supply of capital goods that is available will 
increase the volume of consumable goods that can be produced, 
as any decrease in the supply will lessen production. And 
this increase in the output of goods that results from the 
aid which capital goods render to production, since it applies 
to the collective national industries and not merely to some 
particular branch of production, will, as we have seen (Sec- 
tion 99), cause a corresponding increase in the money income 
to be distributed. The increase in production which is to be 
credited to capital goods is thus not merely an increase in the 
volume of commodities but an increase in the aggregate price 
to be obtained for the larger volume. 

The demands of consumers for consumable goods causes 
them to command certain prices. Enterprisers, desirous of 
making profits by supplying goods at these prices, compete 
against one another for control of the factors necessary to 
production. This competition tends to keep their own profits 
down to a bare wages-of-management and to force them to 
pass along as the remuneration of the factors which they hire, 
subject only to this deduction and to a deduction for the re- 
placement fund, the total price which they receive for the 
things which they sell. Their competition for the factor, 
capital, presents two aspects. One is their competition for 
control over the purchasing power which is tied-up in the 
capital goods they use during the period in which these are 
performing their productive function. This is their demand 
for capital proper, which gives rise to interest. The other 
is their competition for concrete capital goods. In this con- 
nection their demand is that of purchasers of the various 
sorts of commodities they require. As already explained, the 
prices they must pay for these commodities tend under con- 
ditions of free competition to correspond to the expenses which 
representative firms incur in their production. As buyers of 
capital goods they pay prices controlled by the same influences 
that control all prices. As users of capital goods in produc- 
tion they pay interest on the purchasing power tied-up in these 
goods during the period in which they are rendering their 
productive service. The explanation of interest to which these 



SUMMARY OF EXPLANATION 265 

considerations lead may be summarized as follows : Capitalists Summary 
receive a share of the price paid for the products which their Statement 
capital (embodied in concrete capital goods) helps to produce, . .. 
because the amount of capital is limited, because through its 
aid the amount produced and, therefore, the amount to be 
divided is increased, and because enterprisers, knowing the 
important part which capital plays in the branches of pro- 
duction with which they are concerned, are willing to pay for 
its use and are compelled by the competition of other enter- 
prisers so to pay or to go without. The determination of just 
what rate they shall pay, that is, of the current rate of in- 
terest, is a complex matter depending on comparisons between 
the contributions to production of units of capital and units 
of labor under the given conditions of supply of these factors 
as explained in later sections (Sections 155-159). 

As suggested in this explanation, it is not the concrete cap- Interest 
ital goods — tools, machines, etc. — that are the objects of bor- I'aidforUse 
rowing and lending in the business world, but rather capital, 
the price of these capital goods in terms of money or purchas- 
ing power. It is for this rather than for any particular forms 
of capital goods that enterprisers, as borrowers, compete. 
Having obtained a loan of some part of the limited purchas- 
ing power that is available, the enterpriser himself converts 
it into the concrete capital goods he requires. From his point ^ 
of view it is these goods that he borrows and for the use of 
which he pays interest; from the capitalist's point of view 
general purchasing power is the thing loaned and for the 
use of which interest is paid. By retaining the capital goods 
which he purchases and using them in his business, the en- 
terpriser secures the interest which they are capable of earn- 
ing as an addition to his gross money returns. Out of the 
added return due to the capital goods he pays the promised 
interest on the borrowed capital. The replacement fund, 
which in time substitutes a new fund of purchasing power 
for each worn-out capital good, enables him to repay the 
principal of the loan or, if it is continued, to add new capital 
goods to his productive equipment. If, instead of borrowing 
capital, the enterpriser uses wealth that he himself has accu- 
mulated, the same results follow except that under these cir- 



266 



INTEREST 



Points 
Requiring 
Special 
Emphasis. 



The Re- 
placement 
Fund Gives 
Mobility to 
Capital Em- 
bodied in 
Capital 
Goods. 



cumstances he retains for his own benefit all of the interest 
that the capital goods earn in his business. 

There are two points in this explanation that require special 
emphasis. First, it is not mere temporary ownership of 
capital goods that entitles the owner to claim interest, but 
continuous ownership over a longer or shorter period of time. 
The capitalist must continuously refrain from spending his 
wealth on his own gratification or it cannot perform its func- 
tion as capital. This is the point which socialists overlook 
when they contend that those who produce capital goods ought 
to receive the interest which these subsequently afford. Those 
who produce capital goods may secure this interest if they 
save these products for use in further production. Ordinarily, 
however, they are paid for what they produce as they produce 
it and spend their pay on immediate gratifications. They thus 
have no claim on the interest that capital goods afford, be- 
cause it is not through anything that they do that these goods 
are made available for further production. The second point 
is that it is only because the available supply of capital 
goods is limited that they command interest. If ability and 
willingness to save w^ere universal, capital might be accumu- 
lated in such large volume that enterprisers could secure more 
of it than they could profitably convert into capital goods in 
connection with their businesses. In such a situation interest 
might entirely disappear. The circumstances which limit the 
amount of capital that is accumulated, which are discussed in 
Sections 40 and 175, are thus the ultimate reasons for the pay- 
ment of interest. 

§ 151. Differences in rates of interest, the second part of 
the interest problem, require explanation because it is the 
tendency of competition to equalize the earnings of all kinds 
of capital goods within the same market for capital. This 
is accomplished largely through the agency of the replace- 
ment fund. As already explained (Section 79), some capital 
goods are highly mobile and may be assigned readily to the 
particular branch of production in which they are in greatest 
demand. Most capital goods, however, are more or less spe- 
cialized and seem to lack the plasticity necessary to free move- 
ment and free competition. This is the situation as it presents 



rOLE of replacement fund 267 

itself to the observer taking an instantaneous photograph of 
capitalistic production. But instantaneous photographs of 
shifting, changing objects are seldom very lifelike. They fail 
to represent their essential characteristic, which is movement. 
To be understood, capitalistic production must be studied not 
as it appears at any particular moment, but as it appears 
over a considerable period of time. It is not an instantaneous 
photograph, but a ' ' moving picture, " or a series of successive 
impressions, that is required. Every capital good has its dis- 
tinct life history. By itself it has little mobility, but through 
the fact that it comes into being, wears out and is replaced, 
it allows considerable mobility to the capital transiently em- 
bodied in it. No capital good is ever called into being unless 
the investor or enterpriser responsible for its creation believes 
that it will earn not only the current rate of interest on the 
sum invested in it until it is worn out, but in addition a fund 
for its own replacement. In the bookkeeping of the industrial 
world a part of the earnings of capital goods is regularly set 
aside to replace those goods. This constantly accruing re- 
placement fund, which flows back to investors and enter- 
prisers, is completely mobile. It appears as a certain amount 
of free purchasing power which may be used either to replace 
the capital goods in process of destruction with exactly similar 
goods, or to call into being quite different capital goods, as the 
judgment of the enterpriser may determine. At any given 
moment the amount of this mobile replacement fund is small. 
In order that delay and loss may be avoided, its destination 
must be decided upon even before it arises, and in consequence 
it seldom accumulates in the hands of investors and enter- 
prisers, but merely flows through their hands on its way to 
embodiment in new forms of capital goods. Nevertheless the 
existence of this constant flow of mobile purchasing power 
makes possible the withdrawal of capital tied-up in highly 
specialized forms of capital goods and its transformation into 
other forms of capital goods at a rate which only those familiar 
with the ups and downs of business can appreciate. How 
this facilitates the tendency of competition to smooth out 
differences in rates of interest in the same capital market must 
now be explained. 



268 INTEREST 

Competition § 152. Consider first differences among different firms in 

en s ^jjg same branch of production. One firm has preceded all 
Eliminate ,i • • • 

Differences others m putting m some superior machine or other form oi 

in Rates capital, and this gives it higher earnings until others gradu- 
of Interest, ally introduce the superior machines into their plants also.* 
But competitors are always trying to keep their plants up to 
the highest point of efficiency. If inventions and improve- 
ments in processes were to cease it would take but a short 
time for the very best equipment to be introduced into all 
freely competing establishments. Those unable to nwdernize 
their processes would be forced into other industries. They 
could not sell at the normal price and continue to make profits 
equal even to a fair wages-of-management. Allowing time 
enough for the process, therefore, it is evident that in the 
absence of patents, or other monopoly conditions, the earning 
power of capital goods in different competing establishments 
would be equalized. 
Differences g^t among different branches of production differences 

mong- might still persist. Shoe machinery might, for example, be 
Different . ^, ., ,."^ ^ ■ n •, ■ , 

Branches of earning more than textile machinery. But it this were the 

Production, case, one or both must be earning less or more than the current 
rate of interest for capital generally. If shoe machinery were 
earning more than the current rate, competing shoe manu- 
facturers would tend to enlarge their plants to secure the 
extra interest on a larger investment. By so doing they would, 
on the one hand, make drafts on the country's free capital 
tending to enhance the rates of interest other enterprisers 
would have to pay to secure the capital needed to keep their 
plants intact, while, on the other, they would tend to depress 
the price of shoes by increasing the supply and in this way 
to lessen the total to be divided among all the shares in dis- 
tribution in this branch of production. As the result of action 
and reaction the extra earnings of shoe machinery would dis- 
appear. If, on the other hand, the difference was due to the 
fact that textile machinery was earning less than the current 

* These higher earnings were called " profits " in Chapter XII. in 
conformity to business usage. In describing them here as " interest " 
we simply go a step further back and attach them to the superior 
capital goods to which they owe their existence. 



INFLUENCE OF MONOPOLY 269 

rate in industries generally, the conditions would be favorable 
to a reduction in the number of textile plants and the gradual 
release of capital for other investments. This would tend to 
raise the price of textiles and give larger returns to textile 
machinery, while it at the same time reduced the relative 
earnings of capital goods in other industries by permitting a 
slight expansion. Thus among different branches of produc- 
tion, as in the same branch, competition is always tending to 
equalize the earnings of capital goods. As society approached 
the state of normal equilibrium, differences in interest rates 
would be less numerous and less extreme in consequence of such 
changes and adjustments, and when the normal state was 
reached they would have entirely disappeared. Only on this 
condition could a permanent equilibrium be established, since 
any difference in interest rates is itself a reason for change. 
When the state of equilibrium was reached, capital goods 
would be so distributed that each branch of production would 
have just its quota of capital embodied in the best forms of 
capital goods known to enterprisers, and no more. The earn- 
ings of each unit of capital in each capital good would be 
kept the same so long as the equilibrium continued as those 
of every other, and the division of the free-flowing replace- 
ment fund among different branches of production would be 
simply the automatic restoration of the wastes of production, 
accomplished as perfectly as is the restoration of the wastes 
of^he human body through the processes of life. 

§ 153. The above analysis of the tendency of competition Causes of 
helps to explain why in actual practice differences in rates of Differences 
interest persist. To the extent that the mobile replacement ^^ ^ ®^' 
fund fails to multiply forms of capital the moment they are 
needed, or to withdraw other forms the moment they are 
superfluous, there is opportunity for differences in the earning 
power of capital goods. The circumstances which cause such 
differences to arise will now be briefly indicated. 

The most familiar ground for differences in the return Monopoly, 
from different investments is the presence of monopoly. The 
monopolist deliberately restricts the output of the monopolized 
product so that the returns to the capital and labor he em- 
ploys exceed those to be realized in competitive industries. 



Permanent 

Improve 

ments. 



270 INTEREST 

We have designated the surplus return as monopoly profit, 
but since it frequently comes to investors in the form of divi- 
dends it is often thought of as a part of interest. In a sense 
monopoly profit is a part of the share of income ascribed to 
the capital goods which figure in monopolistic production. 
This is particularly true when the basis of the monopoly is 
a patent. Patented machines do earn the larger returns which 
they enable their owners to secure. At the same time the 
reason for the larger earnings is always the monopoly, and 
it conduces to clearness to consider dividends derived from 
monopolistic enterprises as made up in part of interest and in 
part of monopoly profit. 

Interest on The close resemblance of interest on permanent improve- 
ments to rent has already been commented upon. Such im- 
provements will not be made unless there is good reason to 
think they will afford at least the current rate of interest, 
but after they have been made the capital invested becomes a 
part of the land itself and receives income in obedience to 
the law of rent. If the anticipations of the investor are ex- 
actly realized, such capital goods afford an income correspond- 
ing to the current rate of interest, but only so long as in- 
dustrial conditions remain undisturbed. Prospectively re- 
garded such an income is interest, retrospectively it is rent. 

Specialized Every specialized form of capital is subject to a certain 
extent to the same limitations as permanent improvements. 
Consider, for example, a factory which it takes a year to 

Mobility, build and which cannot, w^ithout considerable loss in value, 
be turned to account in another branch of industry than that 
for which it was designed. The investment of capital in such 
a factory will only be made in case there is good reason to 
expect that it will earn at least the current rate of interest. 
But before the factory can be available for production a year 
must elapse. In this time changes may occur. The prudent 
investor will hesitate to transform his free capital into a 
factory until there is a margin of prospective return over 
and above the current rate of interest to compensate him for 
the risk he incurs. It follows that until the earnings of spe- 
cialized capital goods exceed, to some extent, the current rate 
of return on free capital such goods will not be multiplied. 



Forms of 

Capital 

Lack 



DIFFERENCES IN RISK 271 

Competition among investors stops before the earnings of such 
goods are reduced to the general level. On the other hand, 
after the factory has been erected, the capital invested in it 
can neither be withdrawn nor allowed to remain idle without 
considerable loss to the investor. If industrial conditions 
change so that the share of income assigned to the factory 
diminishes, the investor must make the best of the situation. 
Instead of getting the interest he expected, or even the current 
rate on free capital, he may obtain only one-half the current 
rate or even less, and yet it may pay him better to keep the fac- 
tory in operation than to close it or to try to turn it to some 
other use. Under such circumstances the earnings of special- 
ized capital goods may depart widely and for considerable 
periods from the current rate of interest. In communities in 
which changes in the demands of the market and in the 
methods of production are constantly occurring, discrepancies 
of this sort may be so common as to obscure the fact that com- 
petition tends to establish one uniform rate of interest for all 
capital goods. On the other hand the tendency of the business 
community to revalue specialized forms of capital goods by 
capitalizing their actual earnings at the current rate of inter- 
est, irrespective of the expense that may have been involved in 
their production, may easily lead to the contrary error, that 
is, the assumption that the current rate applies much more 
widely than is actually the case. All that we can assert with 
confidence is that to the extent that competition is free, the 
tendency toward one uniform rate of interest for all capital 
goods will be operative. The more active the competition and 
the more stable the methods of production, the narrower will 
the limits be within which variations in interest rates will 
be confined. 

§ 154. Another cause of differences in interest rates results Differences 
from the danger of accidental destruction to which some capital ^^ ^^^^ 
goods are exposed. Whenever this danger may be provided 
against by the machinery of insurance, the difference figures 
simply in the larger replacement fund which must be earned 
in addition to current interest by the capital goods affected. 
In many cases the danger is too irregular and uncertain to be 
insured against, and the increased interest needed to attract 



272 



INTEREST 



Differences 
Among 
Different 
Sections. 



capital into the precarious investment depends upon the tem- 
perament of investors. Conservative people will be deterred 
by the fear of loss from investing at all in such enterprises. 
More reckless and optimistic capitalists may be tempted into 
taking large risks by the promise of only a slightly larger 
return than the current rate of interest. 

In addition to the differences in rates of interest earned in 
different investments and by different kinds of capital goods, 
there are differences among different sections. Although much 
more readily transported to the best market than labor, cap- 
ital also is timid about venturing far from its source. Cap- 
italists usually feel that they can better estimate the risks in- 
volved in investments near home than at a distance. In con- 
sequence of this feeling capital tends to be concentrated in 
the centers where men of wealth live, and new and backward 
communities are able to command less than their proportionate 
share of the available capital equipment. Instead of there be- 
ing one rate of interest on free capital in a country like the 
United States there are a variety of rates, ranging from the 
low rates found in the large cities and the manufacturing sec- 
tions of the North and East to the high rates prevailing in 
the agricultural and mining regions of the South and West. 
A variation of from two to three per cent between the rates 
of interest regularly charged for equally good loans by banks 
in New York and Arizona roughly reflects the difference 
in the earning power of capital goods in the two localities. 
As the country's banking system is perfected and different 
districts are brought into more intimate business relations the 
supply of capital will tend to distribute itself more equally 
over the entire industrial field and such differences will be- 
come less marked. As in the case of wages, however, differ- 
ences in rates of interest among different countries are likely 
to persist long after differences among different districts of 
the same country have become insignificant. 

§ 155. In the preceding sections the causes of differences in 
the rates of interest have been discussed and the process has 
been traced by which the earnings of all goods would be lev- 
eled to one uniform rate in a society brought to a state of 
normal equilibrium. Such a consummation is much nearer 



ASSUMPTIONS MADE 273 

at hand in actual industrial society than is one uniform rate Differences 
of wages. Capital goods are impersonal. As they wear out ^" ^.ates 
they create a free replacement fund which is constantly avail- _ 

X16SS 

able to equalize their earning powers. Moreover, capital passes Marked 
much more readily from one part of a country to another than 
than does labor. If industrial changes should be completely Differences 
suspended for but a few years and monopoly did not inter- ^^ Wages, 
vene, substantial equality in interest rates might be expected 
to establish itself over a wide region. These facts cause econ- 
omists to use the expression, general rate, in reference to in- 
terest, as they would not be warranted in using it in connec- 
tion with wages. By it is meant the rate which economic 
forces tend to make general. In the following discussion we 
shall use that expression, or the more precise phrase, marginal 
rate, as convenience may dictate. The precise rate of interest 
is, of course, not in question in this section, but rather the 
causes which unite to make the rate high or low and to de- 
termine the relation of interest to the other shares in dis- 
tribution. 

We are now prepared to consider the relations among the Assump- 
different shares in distribution and to prove our thesis that tioiisMade 

the general or marginal rate of interest and the marginal rate °. ^™P/ ^ 
„ „ f. • T Discussion. 

01 wages or the rate of wages 01 marginal workmen tend, 

under conditions of free, all-sided competition, to equal the 
contributions which the respective factors make to production. 
To simplify the discussion we may assume that free competi- 
tion has eliminated net or competitive profits, as it constantly 
tends to do, so that the reward of enterprisers is confined to 
their wages-of-management, which obey the same principles 
as wages generally. Monopoly profits are, of course, excluded 
from the problem since their very existence is inconsistent 
with the free competition assumed. Even were this not the 
case we should be justified in ignoring them in connection 
with the present problem, since the wage and interest rates 
paid for workmen and capital goods in monopolistic enter- 
prises are usually adjusted to the rates paid in competitive 
businesses. Enterprisers controlling monopolies wish, as much Monopolies 
as other enterprisers, to secure their productive factors as No* 
cheaply as possible. They could afford often to pay very high Considered. 



274 



INTEREST 



Rent 

Already 

Explained. 



Circum- 
stances De- 
termining 
Amount of 
Joint Share 



wages and interest at the expense of their monopoly profits, 
but as a matter of fact they usually pay only a little if at all 
higher rates than those tixed by general, that is, competitive, 
conditions. It follows that the explanation of wages and in- 
terest that applies to competitive industries will apply also, 
so far as these shares are concerned, to monopolistic industries. 

The explanation of rent given in Chapter XIV. leaves its 
relation to wages and interest in no uncertainty. It is a differ- 
ential return due to the superiority of the land or other nat- 
ural agent used in the given productive enterprise in com- 
parison with marginal land devoted to the same purpose. At 
the final margin of production it does not appear at all ; at 
other points it takes the surplus due to natural conditions 
and in no wise affects the shares, wages and interest. Within 
each labor market the same rates of wages, approximately, 
are paid for the same grades of labor, whether rent happens 
to be another item of expense which the enterpriser incurs 
or not. The same statement holds true of each market for 
loans of capital. It follows that an explanation of the causes 
fixing wages and interest at the no-rent margin of production 
is a complete explanation. The same forces are active in 
every other part of the industrial field and serve to determine 
wages and interest in practical independence of rent. 

With profits eliminated and rent explained in entire inde- 
pendence of the other shares, there are left to be analyzed the 
causes which determine the division of income between wages 
and interest. At the final margin of production in competitive 
enterprises the entire product is divided between these two 
shares, and before we attempt to explain the law of division 
it will be well to recall the influences which determine the 
amount of this joint return. 

§ 156. Since the joint share which goes to labor and capital 
at the margin of production includes the entire product which 
free land, labor, capital and the organizing ability of enter- 
prisers produce at the margin, its size depends obviously upon 
all of the factors that were discussed in the chapters on Pro- 
duction. Of primary importance is the quality of the land 
and the natural agents which are used at the margin. In a 
country like the United States, which is abundantly supplied 



INFLUENCE OF ENTERPRISERS 275 

with land and natural resources in proportion to its popula- 
tion, the lands, mines, forests, fisheries, sources of water power, 
etc., which are used at the margin are rich and afford large 
returns to the labor and capital applied to them. Up to a 
quite recent period in the history of America, improvements 
in transportation facilities and the discovery of new sources 
of natural wealth have kept pace with the growth of popula- 
tion and of capital and the margin of production has been 
lowered but little, if at all. It has been from the first dis- 
covery of the country very much higher than the margin of 
production found in Europe, and this has been a chief cause 
of the high earnings which labor and capital have commanded 
in the New World. Wages and interest have been higher 
because labor and capital have been more generously assisted 
by nature in marginal industries where this assistance has 
been gratuitous. 

Next to the location of the margin of production, the effi- The 
ciency with which labor and capital are correlated in produc- l^^iieiice of 
tion is the most important influence determining the amount ^^^^^.^ 
of their joint share. This depends upon the intelligence and 
alertness of enterprisers. The United States is fortunate in 
this regard also. Its captains of industry compare favorably 
with those of any other country and it is doubtful if industrial 
organization is anywhere more highly developed. Through 
efficient organization labor and capital succeed in producing 
and earning more than they could if less intelligently directed. 

Other factors influencing the result are the industrial capac- ftnalities 
ity of the workers as individuals. The more ability and energy ^^^ 
they put into their work the larger will their return be. ^^^0^.5^. 
Equally important is the efficiency of the forms of capital men and 
utilized in production. If improved tools and machinery, capital 
convenient and sanitary buildings, etc., are the forms into Goods 
which the community's capital is thrown, the returns will Inipoi^tant. 
be larger than if poor implements and badly planned struc- 
tures predominate. The efficiency of the forms of capital 
used depends upon the progress that has been made in in- 
vention and discovery. In this field, also, the United States 
compares favorably with other countries. Its capital equip- 
ment is not perhaps quite as large in proportion to its popula- 



276 INTEREST 

tion as is that of some older countries, but it is up-to-date 
and efficient. By its aid the product shared between labor 
and capital in marginal industries is further increased. 
^oth Through these influences, and all of the others discussed in 

Wages and ^^le chapters on production, the joint share of income which 
Hieh in the ^^^^ ^° labor and capital is determined. If the conditions 
United ^^^ favorable, as they unquestionably are in the United States, 
States. the joint share will be large. The terms of its division between 

labor and capital themselves determine whether wages will 
be high relatively and interest low, or interest high and wages 
low, or both wages and. interest high together. The last con- 
dition is that found in the United States in comparison with 
conditions in European countries. 
The law of §157. We are now ready to discuss the causes which de- 
Competitive ^grmine the division of income between wages and interest. 
.. As these shares are paid for the part which the respective 

factors, labor and capital, play in production, we should ex- 
pect the amounts paid or the rates of wages and interest to 
be in proportion to the importance of the services which each 
renders, and this is in fact the case. Each tends to get a 
share of the joint-product exactly equivalent to what it pro- 
duces. This is to be understood, of course, not in the sense 
that a determinable part of the product can be said to be 
created by it, but only in the sense that such a determinable 
part is economically imputable to it. Thus land and natural 
forces assist production at every point. Their aid is necessary 
to the productive result at the margin as elsewhere and from 
the point of view of physical causation the marginal product 
is theirs as well as that of the other factors. Economically, 
however, they have no claim to a share of this product because 
their services are gratuitous. Only in this economic sense can 
we say that labor and capital tend to get the exact equivalents 
of what they produce. 
Workmen As already suggested, workmen and capital goods not only 
and Capital cooperate in production, but also compete. At some points 
p , in every industry enterprisers have the alternative of using 
as well as certain grades of labor or certain forms of capital for the 
Cooperate, accomplishment of a desired result. Lifting may be done by 
capital goods in the form of elevators, cranes, etc., requiring 



INFLUENCE OF COMPETITION 277 

only human guidance, or by workmen laboriously climbing 
ladders with loads on their backs. Moving may be accom- 
plished by men trundling wheelbarrows or pushing tram cars, 
by means of horsecars or by steam railroads. Similarly in 
manufacturing, the tool-equipped workman is ever a com- 
petitor of the automatic machine. Even in agriculture steam 
plows may be used in place of horse plows with a considerable 
saving in labor, and harrowing, planting, reaping and other 
processes may be performed through the use of machines of 
varying degrees of complexity, or by hand tools. This choice 
between workn?*n and capital goods to accomplish specific 
productive results is by no means a simple matter. It is 
complicated both because the utilization of capital goods, 
even automatic machines, nearly always necessitates the em- 
ployment of some labor and because the employment of wage- 
earners, except in those rare cases in which they receive their 
compensation directly from the product, requires the use of 
some capital (Section 102). The usual choice is, thus, not 
one between pure labor and pure capital, but between ex- 
penditure for wages and interest in one proportion or in an- 
other proportion to secure the same productive return. In 
deciding between capital goods and workmen at competing 
points, the guiding principle always acted upon by enter- 
prisers is to choose that combination of factors which, in pro- 
portion to its el^ciency, is cheapest. Workmen are substi- 
tuted for capital so long as it pays to make the change. At 
other points capital goods are substituted for labor so long 
as this is profitable. Every such substitution tends to enhance 
the price that must be paid for the use of the preferred 
factor, since it involves increased demand for it without any 
change in its supply. It at the same time tends to lower 
the price that must be paid for the factor that is rejected. Its 
supply is increased without any corresponding increase in 
demand. In actual society, where changes are constantly 
occurring not only in the quantities of labor and capital, but 
in the methods of production and the kinds of capital used, 
these substitutions occur constantly and the distribution of 
labor and capital is far from being at any one time what it is 
tending to become. If changes were suspended, substitutions 



278 INTEREST 

of workmen for capital and of capital goods for labor would 
continue for a time, but each substitution would help to bring 
society nearer to the state of normal equilibrium. When that 
state was reached capital goods would continue to be used 
for many purposes for which they alone are suited, and work- 
men would continue to be employed at many tasks which could 
not possibly be done by the most perfect machinery or other 
This capital goods. At other points capital goods would be doing 

Competition ^-g^gj^g j-j^g^^ might be done by labor, while workmen would be 
_ ._ doing things that might be effected through capital. For 

sons and some of these tasks one or the other would be distinctly prefer- 
Substitu- able so long as wage and interest rates remained as they were, 
tions by ^^id therefore they would be little involved in the substitutions 
which made after changes were suspended. In the case of others the 
Interest choice between the factors at current rates of wages and 
Rates Are interest would be a very nice one. Enterprisers would eon- 
Determined, tinue for some time to make substitutions at these points, and 
these substitutions would serve for some time to cause changes 
in wage and interest rates which would make further substitu- 
tions desirable. The range of these changes would contract 
steadily as the state of normal equilibrium was approached, 
and when that state was reached capital goods would be so 
assigned that their net addition to the product just covered 
the rate of interest that had to be paid for them, and workers 
would be so assigned that they received just what they pro- 
duced also. Only on this condition could there be a state of 
equilibrium, because paying to owners of capital less than 
capital goods produced, or to workers less than they produced, 
would involve a third element in distribution, an extra profit 
to the enterpriser. Competition eliminates this extra profit 
only hy bidding up wages and interest until each corresponds 
accurately to the additions that Avorkmen and capital goods 
respectively contribute to the product. The measurement of 
these additions economically ascribable to workers and capital 
goods is effected by means of substitutions. Capital goods 
are substituted for labor and workmen are substituted for 
capital down to a margin of indifference, that is, to a point 
where both factors are equally cheap at prevailing rates of 
wages and interest. At this margin of indifference it would 



LAW RESTATED 279 

be possible to compare the shares of the product to be credited 
to the respective factors and each would get the equivalent 
of what it produced. The Imv regulating the division of the Law 
product hettveen labor and capital for a society in a state Restated. 
of normal equilibrium is, therefore, that each receives the 
share that it produces. As all capital goods will have the 
same earning power, the earnings of the goods at the margin 
of indifference will fix the general rate of interest. All grades 
of workmen will not be compensated equally, but as their earn- 
ings are arranged in a scale, in the manner explained in the 
last chapter, the determination of the earnings of marginal 
workmen will serve indirectly to determine the wages of all. 

§ 158. It should be carefully noted that the productiveness The law of 
of either labor or capital, as measured by economic forces. Competitive 
depends not only upon the location of the margin of produc- 
tion and its own efficiency and supply, but also upon the trated. 
efficiency and supply of the other factor. This may be made 
clear by means of an example. Let the reader imagine an 
island community which has an abundance of land of the best 
quality and therefore no occasion to pay rent, and from 
which monopoly is absent, so that the products of industry 
are divided by competition between w^ages and interest. Sup- 
pose that at the outset there are 1000 workers and .$1,000,000 
worth of capital embodied in those capital goods for which 
the community has most need. Assume further that the net 
product of a year's industry is worth .$600,000 and that it 
is divided by the method just explained so that $500,000 
or an average of $500 to a man is assigned as wages, and 
$100,000, or ten per cent, is assigned to capital goods as 
interest. These rates of wages and interest measure the pro- 
ductiveness of capital goods and workers as determined by 
comparisons at those points where they may be substituted for 
each other. Now suppose that instead of consuming its entire 
income the community saves ten per cent of it, that is, acts in 
such a way that ten per cent of the net product of the year's 
business will take the form of new capital goods to be added 
to the continuously renewed original stock of capital goods, 
and only the remaining ninety per cent of the product the 
form of consumers' goods. This, it must be noted, involves 



280 INTEREST 

an increased willingness to save on the part of the people, 
but how this develops we need not here inquire. Let the 
population meantime merely renew itself so that there are 
still 1000 workers. The total capital for the second year's 
industry is now $1,060,000. The addition of the new capital 
will tend at once to lower the rate of interest. The free 
loanable fund is larger, and those controlling it as it arises, 
bankers, etc., will compete against one another to induce 
enterprisers to take it. As interest goes down wages, on the 
other hand, will tend to go up. To utilize the new capital 
to best advantage more workmen are needed, and enterprisers 
to whom the capital is intrusted will compete against one an- 
other in hiring workmen. These are temporary effects. To 
decide whether they will remain as permanent results after 
the new capital has been assimilated by the producing mechan- 
ism we must consider how the productiveness of units of 
capital and units of labor under the new conditions will com- 
pare witli their productiveness before the change. The addi- 
tion of $60,000 to the capital fund will cause a recasting of 
the whole capital-goods equipment of the society. The $1,000,- 
000 worth of capital was already embodied in the most needed 
forms of tools, machines, etc. Since there are no new workers 
the new capital must be embodied in less needed forms to 
supplement the old forms that continue to be renewed, or 
else must be combined with the old capital released as old 
capital goods wear out to replace these old forms with new 
and more costly tools, machines, etc., that are more efficient, 
but not to the full extent of their increased prices. Inci- 
dentally some of the new capital goods will be used for pur- 
poses for which workmen were previously employed before 
they became relatively so scarce. The productiveness of cap- 
ital goods in the marginal uses to which capital is put will, 
assuming that no improvements in methods of production are 
introduced, be lessened by these changes. The forms of capital 
goods which it now pays to use are less needed. They add 
less to the product of industry and those who supply them 
must be content with less interest. But if interest falls at 
one point it must, for reasons already explained, fall over 
the entire industrial field before adjustment is complete. 



LAW ILLUSTRATED 281 

Hence we may conclude that the fall in the rate of interest 
noted as a temporary effect of the increase of capital will, 
in the absence of improved methods, be permanent. 

But by so much as units of capital in the illustration have 
lost in relative importance, workmen have gained. With their 
superior equipment they can produce at least as much more 
than before as corresponds to the productiveness of the new 
capital goods. Suppose that the fall in the rate of interest 
amounts to ^ per cent. Then the total deduction from the 
year's product on account of interest will be 9^ per cent 
of $1,060,000, or $100,700, of which 9^ per cent of $60,000, 
or $5700, will represent the addition to the product ascribable 
to the new capital. The total product of the year's industry 
will be the old product, $600,000 plus at least this new product, 
$5700, or $605,700. Since of this only $100,700 is now de- 
ducted for interest the remainder, or $505,000, will go to the 
1000 workers as wages, or each will receive on the average 
$505 a year instead of the $500 previously earned. They 
are the same men working no harder than before, but the 
increased supply of capital has increased their relative im- 
portance and, therefore, the share of the product economically 
ascribable to the part they play in production. In such a 
community capital might conceivably be increased until every 
known kind of capital good capable of earning enough for 
its own replacement was added to the community's equip- 
ment and interest was lowered to nothing. Each addition to 
capital would increase the relative importance of labor and 
by the time interest was eliminated wages would have assumed 
princely proportions, although the workmen remained the 
same sort of men and continued to exert themselves no more 
than when their earnings averaged but $500 a year. 

This assumed case is entirely hypothetical and the figures 
used are intended to be merely illustrative, but the fundamen- 
tal relation between wages and interest which it indicates 
is believed to be true of actual industrial society. The in- 
troduction of rent and other complications will not alter 
this fundamental relation. The productiveness of labor will 
still depend not merely upon the richness of the land and 
natural resources at the margin of cultivation and upon the 



282 INTEREST 

number and efficiency of the workmen, but also upon the 
kinds of capital goods in use and the quantity of capital. 
A change in any one of these factors will alter the economic 
importance of every other and consequently the share of the 
joint product that is economically imputable to it as its share. 
Corre- g 159 ^}^q assumption that industrial society is brought 

^^th 1^^^ ^^ ^^® state of normal equilibrium, which plays such an im- 
industrial P^^^^^t part in the preceding discussion, is merely a device 
Society. ^^r making clear and precise what in actual industrial society 
is indefinite and elusive. This assumption involves, however, 
nothing more than giving free play to competition and allow- 
ing time for it to work out its full effects. In actual indus- 
trial society the efforts of enterprisers are constantly directed, 
as we have represented them to be, toward using capital goods 
only down to the margin of indifference on the capital side, 
and toward employing workmen only down to this margin 
on the labor side. To overstep it in respect to either is to 
incur loss, while on the other hand failure to push the use 
of the productive factors to this limit in each branch of 
production is to forego a profit that might otherwise be ob- 
tained. Thus in actual practice the use of additional capital 
goods here, and the employment of more workmen of a given 
grade there, or the withdrawal of capital goods or the dis- 
charge of workmen, have for their purpose better conformity 
to the ideal arrangement of labor and capital that has been 
described. At any given time a rough approximation to the 
ideal toward which competitive forces are always straining 
is actually presented, and in every branch of production com- 
parisons between the productiveness of quantities of capital 
and quantities of labor are being made by enterprisers and 
are determining their business decisions. The law of com- 
petitive distribution that we have stated is, therefore, the 
law to which actual distribution tends to conform. 

REFERENCES FOR COLLATERAL READING 

*Clark, Essentials of Economic Theory, Chap. IX.; *Seligman, Prin- 
ciples of Economics, Chap. XXV.; Carver, The Distribution of Wealth, 
Chap. VI.; *Marshall, Principles of Economics, Book VI., Chaps. VI.- 
VIII.; Pierson. Principles of Economics, Part I., Chap. IV.; Taussig, 
Principles of Economics, Chaps, XXXVIII.-XL. 



CHAPTER XVII 
VALUE, PRICE AND DISTRIBUTION 

§ 160. We have now surveyed, in broad outline, the whole Summary 
field of consumption, production and distribution, and are °^ Theory 
prepared to discuss the ultimate determinants of economic ° "^^^e, 
relations. We have seen that men habitually value goods not 
as aggregates, but as divided up into distinguishable units, 
such as pounds or bushels, and that the use-values they ascribe 
to these units are in proportion to their marginal utilities. 
We have seen further that in industrial society making valua- 
tions is a collective process. It is not the marginal utility 
of each good to each consumer that determines its value, but 
the marginal utility of each good to consumers collectively. 
Moreover, goods are valued as bundles of utilities by adding 
together the marginal utilities of their different qualities to 
the groups which are just able to command those qualities. 
Thus the rich accept in large measure the valuations which 
the poor place upon necessaries and comforts, and confine 
their influence to the valuation of luxuries. For consumers 
collectively, however, the values of goods are determined by 
their marginal utilities. 

Prom the point of view of consumption, values in use, the Summary 

relations between goods and men, are all-important. In pro- of Theory 

of jPticcs 
duetion and distribution their derivative, values in exchange, 

concretely represented by prices, hold the forefront of interest. 

The exchange value of a good is its power to command other 

goods in exchange for itself. Price is exchange value in terms 

of the good used as the medium of exchange, or money. The 

determination of money prices was shown to result from 

competition and bargaining among buyers and sellers and it 

was found that laws of price might be formulated from the 

point of view of either. From the side of buyers the tendency 

is for price to correspond with the money equivalent of the 

283 



284 



VALUE, PRICE AND DISTRIBUTION 



Relation 
Between 
Incomes of 
Consumers 
and the Ex- 
penses of 
Production. 



Graphic 
Repre- 
sentation of 
Production 
and Distri- 
bution. 



marginal utility or use to the marginal buyer of the good 
purchased. It thus depends in part upon buyers' scales of 
wants or uses and in part upon the sums of money which they 
have to spend. From the side of sellers the law of price 
depends upon the conditions of production. Under conditions 
of monopoly the tendency is for the monopolist to charge the 
price calculated in the long run to afford the largest monopoly 
profit. Under conditions of free competition, on the other 
hand, the price tends to correspond with the expenses of pro- 
duction to representative firms. The actual price is usually 
somewhat above or somewhat below this normal and allows 
for a competitive profit or loss to the enterpriser. 

These laws of price leave unconnected two factors that are 
intimately related to each other-^the sums of money which 
buyers have to spend and the profits and expenses of produc- 
tion which figure in the calculations of sellers. Generally 
speaking these are the same sums of money, for what buyers 
spend is their money incomes, and money incomes arise be- 
cause of the part which those who receive them play in pro- 
duction. They are either profits, rents, wages or interest. 
To bridge over this gap in the explanation of prices and in 
so doing to supply a complete theory of value and price is 
the task of the theory of distribution. It recognizes that 
buyers and sellers, consumers and producers, are, in general, 
the same individuals and that the whole machinery of buying 
and selling is simply a convenient means of combining effec- 
tively the various factors in production and of assigning the 
appropriate shares of the product to those who have claims 
upon it. 

§ 161. In order to restate the laws determining rent, wages 
and interest it will be necessary to advert for the last time to 
the relations that would prevail in an industrial society 
brought to the state of normal equilibrium. In such a society 
the relation between production, distribution and consumption 
would be extremely simple. Production would still be carried 
on as a serial process, but it could be readily analyzed, since 
all prices would correspond exactly to the expenses of pro- 
duction and these would never vary. The whole matter may 
be represented graphically by the following figure: 



GRAPHIC REPRESENTATION 



285 




Fig. 9. 



In the above figure production is represented as subdivided 
into three great stages. The extractive industries, depicted 
at the extreme left, turn out raw materials. Manufacturing 
takes these and transforms them into manufactured products. 
Transportation and trade deliver these finished products to 
purchasers, who may be either consumers converting their 
money incomes into real incomes, or enterprisers converting 
the free replacement fund into capital goods to restore the 
wastes incidental to production. The figure represents move- 
ment without change. Goods are flowing continuously from 
stage to stage. At the last stage, the stream is divided, an 
unvarying volume of capital goods flowing one way and an 
unvarying stream of consumers' goods flowing the other. 
The capital goods exactly replace the goods destroyed in the 
course of production and the consumers' goods exactly re- 
munerate the owners of land, workmen, and owners of capital 
goods for the productive services which they or their posses- 
sions have rendered. Finally the prices of goods are invari- 



286 



VALUE, PRICE AND DISTRIBUTION 



Restate- 
ment of 
Theory 
of Rent. 



able and everywhere just equal to their unvarying expenses 
of production. 

§ 162. How the expenses of production are determined was 
explained in the last three chapters. A brief restatement will 
suffice to recall the principal points. Eent is paid for the 
services which different pieces of land perform in production. 
On the one hand are the various uses to which human wants 
and prevailing methods of production cause pieces of land 
to be put. On the other are the quantities of land of different 
qualities and in different situations. The most suitable pieces 
of land are assigned to the most important uses. To them 
are added less suitable pieces down to a margin where a given 
piece is equally valuable for some other use. If assigned to 
the first use the given piece must command a rent equal to 
what it was worth for the other use, as shown by comparing 
it with other pieces actually devoted to that use. This rent is 
a " marginal rent " for all pieces of land assigned to the 
first and most important use. To it are added differentials 
measuring the superiority of pieces of land above this margin 
to determine their respective rents. The same process of 
comparison applied to pieces of land good enough only for 
inferior uses serves to determine their rents. At the very 
bottom of the scale are found pieces of land for which there 
are, economically speaking, no alternative uses. The ' ' margin 
of indifference " for this lowest grade of land is the point 
where it does not matter economically whether the land is 
cultivated or allowed to lie waste. At this point pieces of 
land can command no rent. Economically speaking they are 
superabundant and, therefore, free. From this lowest no-rent 
margin of indifference the rents of all better or more favor- 
ably situated pieces of land are measured. Rent is the differ- 
ential which indicates their position in the economic scale. 
From the point of view of price it is the share of the total 
price that is economically imputable to the land itself. If 
this share is large it indicates that the land serves an im- 
portant economic use and that land equally well adapted to 
this use is scarce. 

§ 163. Wages are paid to workmen for their services in 
production. Their determination results from calculations 



WAGES OF MARGINAL MEN 287 

closely similar to those that are made in connection with rent, l^estate- 
but the matter is more complicated because workmen are more ™^^* °^ 
adaptable to different uses than are pieces of land, and because ^^^"''^ °^ 
the number of workmen of different grades is more fully 
subject to human control. JMoreover, the margin of indiffer- 
ence for workmen is not that between the least important tasks 
to which workmen of the lowest grade are assigned and tasks 
of no economic importance, but between these tasks and less 
important ones that are ruled out economically by the scarcity 
of workmen even of the lowest grade. As in the case of pieces 
of land, so in the case of workmen, there are, on the one side, 
the various employments for workmen of different grades 
determined by the wants of consumers and the current methods 
of production, and, on the other, the number of workmen of 
each grade fitted for these employments. "Wages are deter- 
mined by comparisons just as are rents, only the basis from 
which all higher wages are measured is not no-wage, but low- 
wage workmen. 

A complete theory of wages has to explain not only existing The Wages 
differences in rates of wages and the law by which marginal of Marginal 
wages are fixed, but also why these differences persist. This workmen. 
we imdertook to do by reference to the diverse standards of 
living found in each community and the influence of these 
standards in controlling the growth of population and deter- 
mining the industrial qualifications of the members of each 
successive generation of the world's workers. Marginal wages 
were shown, on the other hand, to be determined by compari- 
sons between the productiveness of workmen and of capital 
goods. At the margin of production where no rent is paid 
there is a product to be divided between labor and capital. 
The size of this product is the primary consideration upon 
which rates of wages and interest depend, and, as was shown, 
this is influenced largely by the location of the margin of 
production. If the number of the population is not so great 
compared with the natural resources of the country as to force 
a resort to inferior lands, mines, etc., the no-rent margin will 
be located at a point where workmen and capital goods reap 
a large return. In the division between workmen and capital 
goods the location of the margin of indifference between them — ' 



288 



VALUE, PRICE AND DISTRIBUTION 



Hestate- 
ment of 
Theory of 
Interest. 



is the important consideration. This depends in part on the 
number and efficiency of the laboring population and in part 
upon the quantity and quality of the capital goods used in 
production. In general the law is that competition tends to 
assign to each factor as its share of the price of the product 
an amount corresponding to what it has produced. Each fac- 
tor, in other words, gets the equivalent of its own product 
measured not absolutely, but, in the only way that it can be 
measured, comparatively. Wages above the marginal rate 
also tend to correspond to what the workmen who receive them 
have, economically speaking, produced. They indicate the 
place each worker holds in the scale of productiveness. In 
reference to wages as a whole, then, as in reference to rent, 
we conclude that the law is for each workman to get the 
share of the price of the product that he has himself con- 
tributed. 

§ 164. Interest is what is paid to the owners of capital goods 
as remuneration for the services these goods render in produc- 
tion. The great mobility of capital, which results from the 
constant destruction and replacement of capital goods, causes 
it to be available for each use for which it is fitted in about 
the same proportionate quantity. In the assumed state of 
equilibrium the distribution of capital over the whole indus- 
trial field would be perfect. Capital goods would be supplied 
for each use down to the point where the interest they afforded 
just equaled the interest earned by equally valuable capital 
goods in other branches of production, and there would be one 
uniform rate of interest over the whole industrial field. This 
rate is determined in the same way as is the marginal rate of 
wages, by comparing the productiveness of capital goods with 
that of workmen. At the margin of indifference, where either 
may be used indifferently for given purposes, the balance is 
struck between them. The location of this margin depends, 
as already stated, upon the number and efficiency of the 
laboring population and the quantity and quality of the cap- 
ital goods used, and also upon all of the influences that de- 
termine the amount of the joint share which labor and capital 
divide between them at the margin of production. 

There are certain difficulties which suggest themselves in 



COMPLICATIONS 289 

connection with this explanation of interest that must be 

cleared up at this point. They refer to the calculation of the 

replacement fund which each capital good is assumed to earn 

along with its interest. It will naturally be asked just how 

the amount of the total replacement fund is determined, and, 

secondly, how the proportion that must be assigned to this The 

fund each year is fixed. The total amount of the replacement Calculation 

fund for each capital good equals, obviously, the price of the ° ^ ^" 
-, T 1 o -TT • n 1 • placement 

capital good, in the state of equilibrium assumed, this cor- p^^^ 

responds exactly to the expense of producing the capital good. 
This expense might be followed back in thought to the point 
at which the bare-handed savage appropriated from the store- 
house of nature the material from which the first capital good 
was fashioned and the expense of production consisted wholly 
of wages, but it is equally logical to take for granted the 
conditions determining the prices of the capital goods used 
in the previous stages of production and make these the 
starting point for an analysis of present relations. The total 
replacement fund must then equal the price of the capital 
good to be replaced as determined by its expense of production. 

The amount to be set aside each year for the replacement ^^^ ^^^^ 
of a capital good depends upon its durableness and the ^"° ° ^ 
standard of efficiency which it must maintain in order to Goo^pg. 
make its continued use profitable. Circulating capital goods pendsupon 
must be completely replaced as they are used. Fixed goods Current 
wear out at varying rates and no general rule can be ad- ^^^^^ of 
vanced in reference to them. The standard of efficiency re- ^^^^ *^ 
quired of capital goods depends in general upon the location 
of the margin of indifference between capital goods and work- 
men. If this is such that the rate of interest is relatively low 
while the rate of wages is relatively high, capital goods must 
be discarded promptly as their efficiency falls below a certain 
high standard, in order that loss may be avoided. This is 
because in most of their employments capital and labor work 
together, and it is uneconomical to equip highly paid workmen 
with worn and inefficient tools and machines when the use 
of new tools and machines may be had on the payment of a 
low rate of interest. The lower the rate of interest, accord- 
ingly, or the higher the rate of wages, the shorter the period 



290 



VALUE, PRICE AND DISTRIBUTION 



Explana- 
tion of 
Interest 
Applies to 
Gross as 
well as to 
Net Earn- 
ings of 
Capital 
Goods. 



Hestate- 
ment of 
Law of 
Competitive 
Distribu- 
tion. 



that capital goods will continue to be used and the larger 
the periodic allowance for their replacement which must be 
made out of their gross earnings. In the reverse case, that 
is when interest is high and wages are low, tools and machinery 
will continue to be used for a much longer interval and the 
accumulation of the replacement fund will be spread out over 
a correspondingly longer period. These considerations ex- 
plain why cheap labor and old and inefficient capital goods 
are usually found together, while the almost certain attendant 
of dear labor is an up-to-date and efficient equipment of 
capital. 

In distinguishing the earnings of capital goods into two 
elements, an interest fund and a replacement fund, we have 
merely followed the practice of the business community. The 
use of money as the universal medium of exchange causes 
loans to be made usually in money rather than in the capital 
goods which the borrower actually needs in his business and 
ultimately obtains by purchase with the money borrowed. 
The replacement in money of the principal borrowed causes 
interest to stand out clearly as a distinct item and accounts 
in large measure for the practice referred to. It would be 
an error, however, to conclude that the earnings of capital 
goods assigned to the replacement fund obey any different 
principle than those assigned to interest. Competition tends 
to make the earnings devoted to both uses correspond to the 
contributions which capital goods make to the price of the 
product and in the assumed society this correspondence would 
be perfect. The law of interest applies, therefore, as well 
to the gross as to the net earnings of capital goods, and it may 
be laid down as a general principle for capital goods, as for 
pieces of land and workmen, that they tend to receive as 
their shares of the price of the product amounts corresponding 
to what they contribute to production. 

The general law of competitive distribution for a society 
allowed to attain the state of normal equilibrium is, then, 
that each factor in production has assigned to it a share in 
distribution corresponding to what it itself produces. If rent, 
wages and interest be defined as the prices paid respectively 
for the services to production of pieces of land, workmen and 



NECESSARY QUALIFICATIONS 291 

capital goods, the law may be stated to be, that competition 
tends to put a price on the services of each of the factors of 
production corresponding to the price which attaches to its 
particular contribution to the product. In actual industrial 
society, as has already been pointed out, economic relations 
fall short of this competitive ideal. Monopoly influences in- 
tervene to secure monopoly profits for some enterprisers at 
the expense of the shares assigned to wages and interest. 
Changes occur to throw the whole mechanism of production 
out of adjustment and to occasion profits or losses to other 
enterprisers which must in time be distributed among all 
participants. Special obstacles prevent certain groups, espe- 
cially among the laboring population, from getting the full 
benefit of the influence of competition and make their earnings 
less than they ought economically to be. Adequate account 
must be taken of these and other influences when it is 
attempted to make practical application of economic theories, 
as in the later chapters of this book. Notwithstanding them, 
the law of competitive distribution which has been explained 
remains the norm to which actual relations tend always to 
adjust themselves. Its mastery is preliminary not only to a 
thorough understanding of prevailing conditions, but to any 
intelligent effort toward improving those conditions as they 
affect the mass of men. No apology need therefore be offered 
for the prolonged attention which the reader has been asked 
to give to a hypothetical society which, as is freely admitted, 
will never exist outside of the imagination of the economist. 

§ 165. Lest the true significance of the law of distribution Necessary 
to which our analysis has brought us be misconceived, it will Qualiftca- 
be well to consider carefully certain conclusions that might *^°^s- 
seem to follow from it, but that really do not. First, then, 
although we have found it convenient to give great prominence 
to the tendency of competition to cause prices to correspond 
with the expenses of production of representative firms, noth- 
ing in our analysis would justify us in saying that these 
expenses determine prices. On the contrary, it would be 
nearer the truth to say that prices, determined by the money 
equivalent of the marginal utilities or uses of goods to mar- 
ginal buyers, determine the expenses of production. But this 



292 VALUE, PRICE AND DISTRIBUTION 

statement also would fail to tell the whole truth. Prices are 
paid for goods because of limitations on their supplies. These 
limitations under conditions of free, all-sided competition are 
due in turn to limitations on the supplies of the factors of 
production — superior land and natural resources, workmen 
of all grades, capital goods. Thus if prices determine the 
expenses of production, the causes necessitating expenditures 
in production play a part in determining prices. The chain 
of causation is not straight, but returns upon itself in a circle. 
Each influence that needs to be considered acts and reacts 
upon all of the others. 

Secondly, since we cannot logically say that the expenses 
of production determine prices, then neither can we say that 
a particular share in the expenses of production, such as 
wages to marginal workmen, determines the part of the price 
corresponding to it. When w^e assert that wages to marginal 
workmen tend to equal the price of that part of the product 
which is economically imputable to the labor of these work- 
men, we do not mean that the price of part of the product is 
determined by wages. The determination of price is a com- 
plex process and wages figure in it only as the limitation on 
the supply of labor is one of the causes of the limitation on 
the supplies of consumable commodities which causes them 
to command prices. The competitive bidding of enterprisers 
for the limited number of marginal w^orkmen tends to raise 
the price or wages paid for their services to a level with the 
price of the part of the product imputable to their services. 
In this sense and only in this sense can w^e assert that com- 
petition tends to make wages equal what the factor, labor, 
produces. 

A final misapprehension to be guarded against is that the 
law of competitive distribution which has been stated is a 
justification of such distribution. Economically speaking, 
landowners may get only the equivalent of what their land 
produces, workmen may get the full equivalent of what their 
labor produces and capitalists may get only what their capital 
goods produce, and yet this may be a very unfair division 
of the product. It leaves entirely unconsidered two questions 
that are fundamental to any decision as to the justice of the 



THE EXCHANGE THEORY 293 

system, that is, is there a fair division of opportunities for 
individuals to develop into efficient producers and is the pri- 
vate ownership of land and capital goods itself just? Our 
opinion touching the first of these questions was indicated in 
the discussion of the causes of differences in rates of wages 
(Sections 140, 146 and 147). In answer to the second some 
views are advanced in the closing chapters. 

The law of competitive distribution, as these three quali- 
fications on conclusions that might be drawn from it suggest, 
is not the economist's last word touching any important prob- 
lem. It is merely an aid toward an understanding of the 
complexities of actual industrial life in which monopoly and 
change are even more conspicuous than what we have desig- 
nated as " normal " conditions. 

§ 166. The theory of competitive distribution that has been Other 
explained in this and the preceding chapters is commonly Theories 
described as the " productivity theory " on the ground that ° istn- 
it undertakes to account for the shares assigned to the different 
claimants by reference to the contributions which they have 
made to production. Although indorsed by many leading 
American and foreign economists, it is not universally ac- 
cepted. Among rival theories, that which undoubtedly holds 
first place is the " exchange theory," ably presented as re- 
gards interest, or the share of wealth assigned to capital, by 
the Austrian economist. Professor Eugen von Bohm-Bawerk, 
in his two books, Capital and Interest and The Positive Theory 
of Capital. The objections which this distinguished writer 
urges against the productivity theory can best be indicated 
by a brief review of the exchange theory which he himself 
offers as a substitute. If it can be shown that there is no 
real opposition between this and the productivity theory, the 
conclusions of both will be strengthened. 

In his explanation of interest. Professor von Bohm-Bawerk The 
starts out with the entirely just contention that distribution Exchange 
is simply one segment in the completed circle of exchanges 
by which economic relations are controlled in an industrial 
society in which each produces not for himself, but for the 
market. He applies this thought to the interest problem, as 
follows : the enterpriser by purchasing the appropriate kinds 



294 



VALUE, PRICE AND DISTRIBUTION 



Interest a 
Discount 
on Future 
Goods. 



The 

Exchange 

Theory 

from 

Viewpoint 

of Lenders. 



of capital goods and combining them with land and labor 
may, under normal conditions, realize a product whose price 
covers all of his expenses and leaves over an interest on the 
capital invested. Interest is thus the difference between the 
price of capital, or ' ' future goods, ' ' and that of the products, 
or " present goods," into which they will ripen if managed 
with ordinary business prudence. It will be noted that his 
characterization of interest is different in terms rather than 
in essence from that given in the text. Instead of saying, 
as we have done, that capital goods produce present goods 
worth more than themselves, that is, an interest over and above 
their own replacement fund, he asserts that the present value 
of capital goods is less than is normally the value of the goods 
into w^hich they will be transformed by the process of pro- 
duction. Both statements agree as to the difference in value. 
We have given prominence to the assistance which capital 
renders to production as a cause of this difference ; Bohm- 
Bawerk gives prominence to other considerations. 

Pursuing his inquiry, Professor von Bohm-Bawerk con- 
cludes that the explanation of interest lies in the tendency of 
men to value present goods more highly than equivalent future 
goods and that the rate of interest is simply the rate at which 
they discount future goods. This appears to be a very differ- 
ent proposition from that in the text that the rate of interest 
is the ratio between the value of the net products of capital 
goods and the value of those goods themselves, but if it can 
be shown that Professor von Bohm-Bawerk 's rate of discount 
depends, at last analysis, on the productiveness of capital 
goods the seeming opposition between the two views will be 
reconciled. 

In the determination of the rate of interest, as in the de- 
termination of every other rate with which economics has to 
do, there are two parties to be considered, lenders or capital- 
ists, who supply capital goods, and borrowers or enterprisers, 
who turn them to productive account. The exchange theory 
of interest views the phenomenon primarily from the view- 
point of lenders. Interest is a premium that is constantly 
offered by the present organization of industrial society to 
those who will convert their incomes into future goods instead 



JUSTIFICATION OF PRODUCTIVITY THEORY 295 

of present goods, or save and invest instead of spend.* That 
there is such a premium and that it plays an important role 
in the explanation of interest all must agree (Sections 40 and 
175). For, if men did not discount future goods, they would 
save their incomes rather than spend them on immediate grati- 
fications so long as interest could be earned in this way. It 
is equally obvious that whenever and so long as the current 
rate of interest exceeds the rate at which men discount future 
goods, income will be saved and invested and that the tend- 
ency in a competitive society will be for the supply of capital 
goods to be kept at that level at which the rate of interest and 
the rate of discount for those who are just on the margin 
between saving and spending are equal. From the side of 
lenders or capitalists, accordingly, the law of interest is that 
presented by the exchange theory. 

The productivity theory is based on a study of interest from The Pro- 
the viewpoint of borrowers or enterprisers. They know from ductivity 
experience that capital goods are productive in the sense that ^^°^y 
under the direction of men of average prudence they may viewDo"nt 
be made to afford interest. This, as explained in the chapters of 
on production, is because roundabout, serial or capitalistic Borrowers, 
production yields a larger return in goods in proportion to 
the land and labor used than direct production. Nor is the 
objection that this larger return in goods may not involve 
also a larger return in the money incomes to be distributed 
well taken. For, as we have already shown, a simultaneous 
increase of goods in all branches of production such as results 
from the aid which capital affords to industry will not nor- 

* An important reason for this premium, in Professor von Bohm- 
Bawerk's own explanation, is what he calls " the technical superiority 
of present over future goods," a characteristic which seems indis- 
tinguishable from the productivity of capital made prominent in the 
rival explanation. Certain versions of the " exchange theory," for 
example, Professor Irving Fisher's " impatience theory " ( The 'Nature 
of Capital and Income; The Rate of Interest), seem to refuse to concede 
even in this indirect way the important part which the assistance that 
capital renders to production plays in the determination of interest. 
These theories succeed in explaining why interest must be paid to 
secure capital; they fail, however, to make clear the motive which 
induces business men to pay interest or the source from which at last 
analysis it is derived. 



296 



VALUE, PRICE AND DISTRIBUTION 



Two 

Theories 
Comple- 
mentary. 



mally cause any change in price ratios but will result in a 
corresponding increase in the aggregate price at which the 
goods sell (Sections 99 and 150). Armed with the knowledge 
that capital goods are productive, enterprisers try to appor- 
tion the supply of capital over the industrial field so that the 
largest return will be realized. The comparisons which this 
leads them to make between different capital goods and be- 
tween capital goods and workmen have already been described, 
as has the tendency which results from these comparisons for 
the rate of interest to correspond to the product economically 
imputable to units of capital as contrasted with units of 
labor. From the side of borrowers or enterprisers, therefore, 
the productivity theory of interest is as valid as is the ex- 
change theory from the side of lenders or capitalists. There 
is no real opposition between them. Rather either to be com- 
plete must be supplemented by the other, as will appear when 
we come to the discussion of the last phase of the productivity 
theory, that is, the causes which control the supplies of work- 
men and of capital goods, and which by so doing determine 
the shares of the product assigned to them respectively, 
at the margin of indifference where they come into com- 
parison. 
The Wages- § 167. Another theory in apparent conflict wdth that which 
has been defended in these pages is the so-called wages-fund 
theory, which at one time enjoyed great vogue in English 
economic literature. The theory can best be stated in the 
language of one of the leading works on political economy 
published about the middle of the last century, that of John 
Stuart Mill. It should be said that Mill himself abandoned 
the theory before his death, but without revising it out of his 
Political Economy. In his chapter, " Of Wages," Mill states 
that '' wages, then, depend upon the demand and supply of 
labor; or, as it is often expressed, on the proportion between 
population and capital. . . . There is unfortunately no mode 
of expressing by one familiar term the aggregate of what 
may be called the wages fund of a country ; and as the wages 
of productive labor form nearly the whole of that fund, it 
is usual to overlook the smaller and less important part, and 
to say that wages depend on population and capital. . . . 



fund 
Theory 



THE WAGES-FUND THEORY 297 

With these limitations of the terms, wages not only depend 
upon the relative amount of capital and population, but can- 
not be affected by anything else. "Wages (meaning, of course, 
the general rate) cannot rise but by an increase of the aggre- 
gate funds employed in hiring laborers, or in a diminution 
of the number of competitors for hire ; nor fall, except either 
by a diminution of the funds devoted to paying labor, or by 
an increase in the number of laborers to be paid." 

In the guarded way in which the theory is here presented Conclusions 
no particular objection can be raised to it, since it amounts Drawn 
merely to saying that wages are for the most part paid out ^°™ 
of capital, that wages in the aggregate cannot exceed that 
part of capital assigned to wages or the wages fund, and that, 
consequently, the average rate of wages depends upon the 
proportion between the wages fund and the wage-earning 
population. That real wages are, literally speaking, with- 
drawn from the stocks or capital of retail dealers and in this 
sense " paid out of capital " was shown in Section 100. That 
wages in the aggregate cannot exceed the aggregate fund of 
goods constituting wages is self-evident. Equally incontest- 
able is the method proposed for calculating average wages. 
Unfortunately advocates of the wages-fund theory rarely con- 
tented themselves with these conservative statements. They 
presented the theory as a law of wages and assumed a rigidity 
in the wages fund that would justify the most extreme con- 
elusions. Thus many of them opposed strikes and other efforts 
on the part of particular groups of workmen to raise their 
wages on the ground that their higher wages, if they did 
secure them, would leave a smaller wages fund to be divided 
among other workmen and would therefore be entirely offset 
by lower wages for other groups. In the same way they 
tended to exaggerate the dependence of workmen upon capi- 
talists and to represent the latter as the greatest benefactors 
of the race, since upon their self-restraint the size of the all- 
important wages fund depended. Any measures calculated 
to check ever so little the accumulation of capital were vigor- 
ously opposed on the ground that they menaced the welfare 
of the whole laboring population. These and other quite un- 
warranted conclusions have stamped the wages-fund theory 



298 



VALUE, PRICE AND DISTRIBUTION 



Criticism 
of the 
Theory. 



Other 
Objections 
and 
Conclusion. 



as one of the most pernicious errors ever accredited by reputa- 
ble economists. 

As suggested, the great fault with the wages-fund theory 
as a law of wages is its assumption that the wages fund is 
rigid and predetermined. At the time that this idea was ad- 
vanced by English economists there was but a limited im- 
portation of food and the other goods consumed by the labor- 
ing population of England. It followed that, after the crops 
were harvested, the amount of subsistence upon which the 
whole population would have to depend during the ensuing 
year was practically determined. By thinking of wages in 
terms of the staple article of diet of English workmen of the 
period, wheat, and ignoring the fact that the wheat supply 
must feed others as well as wage-earners, economists succeeded 
in persuading themselves of the existence of a rigid and pre- 
determined wages fund. The assumption was not justified 
even when England imported no food from abroad, because, 
on the one hand, wages, then, as now, included a good deal 
more than food, and on the other it was not the subsistence 
of workmen, only, that was predetermined, but that of the 
whole population. The part of the total food supply which 
should go to wage-receivers was never fixed in advance. It 
might be increased or decreased at the expense of the parts 
assigned to other classes. Hence it was quite unwarranted to 
argue even in reference to food that a strike could not improve 
the condition of one group of workmen except at the expense 
of some other. 

But if the belief that the wages fund was rigid and pre- 
determined was not defensible in England during the second 
cj[uarter of the last century, it is still less defensible for com- 
mercial countries of the present day. At the present time the 
principal articles used for food are produced for the world 
market. No country is limited to its own products, and coun- 
tries like the United States which produce not only most of 
their own food articles, but also for export, have a large re- 
serve on which they may draw at will. Moreover, wages in 
the aggregate consist to a less extent than ever before of 
mere subsistence, and most of the articles other than food 
which workmen consurne are produced continuously and admit 



CONCLUSION 299 

of increase or decrease within considerable limits in response 
to the varying demands of the market. It follows that the 
wages fund under present conditions is as elastic as any of 
the funds with which economics has to deal, and no law of 
wages based upon it can throw much light on the causes which 
really determine wages. As was shown in Section 101, even 
the fact that wages are for the most part paid out of capital 
loses much of its significance when it is remembered that the 
products of labor are themselves added to capital and that the 
tendency is for these products continuously to replace what is 
withdrawn and consumed and to keep the fund of capital in- 
tact. Production and distribution are concerned less with 
funds of wealth than with flows of wealth and the continuous 
destruction and renewal that is going on at every point should 
put economists on their guard against any theory which as- 
sumes fixity or rigidity of relations. The true influence of the 
suppl}^ of capital upon the rate of wages is found not in the 
field of distribution, but in that of production. An increase 
of capital tends to raise wages because it enhances the im- 
portance of labor as a factor in production. Marginal work- 
men are enabled by such a change to produce more than they 
did before and this, at last analysis, is the reason why they 
earn more. 

REFERENCES FOR COLLATERAL READING 

*Bdhm-Bawerk, Capital and Interest, Book II., and The Positive 
Theory of Capital. Books V. and VI.; *Pierson, Principles of Economics, 
Part I., Chap. IV.; Mill, Principles of Political Economy, Book II., 
Chap. XI.; *Taussig. Wages and Capital, Part I., and Part II., Chap. 
XL; * Fisher, The Rate of Interest; *Seager, The Impatience Theory of 
Interest, article in American Economic Revieiv, Vol. II., No. 4. 



CHAPTER XVIII 



VALUE, PRICE AND DISTRIBUTION (concluded) 



The 

Ultimate 
Determi- 
nants of 
Distribu- 
tion. 



§ 168. We come now to the last stage in the explanation of 
wages and interest, the discussion of the causes that control the 
growth of population and of capital, and by so doing influence 
the location of the margin of indifference between them. It 
will be suggestive to preface this discussion by reviewing some 
of the facts in reference to the actual increase in the popula- 
tions of the leading countries of the world in recent decades. 
Statistics of Jq Section 17 a table was given showing the growth of the 
Population, population of the United States from 1790 to 1910. The 
remarkable rate of increase, varying from 36.4 per cent in 
the decade from 1800 to 1810 to 20.7 per cent from 1890 to 
1900, was due, of course, in part to immigration. During 
the same period the populations of European countries were 
also increasing, but at a much slower rate. Instead of 
doubling on the average once every twenty-five years as 
did the population of the United States during the one hun- 
dred years from 1790 to 1890, the population of all Europe 
but little more than doubled during the whole period.* The 
following table indicates the changes in the populations of 
the principal countries for which we have statistical informa- 
tion, from the beginning to the end of the nineteenth century ; 



GROWTH 


OF 1 


POPULATION, 


1800-1900 




(000,000 omitted) 




Per cent of 


1800-01 


1900-01 


Increase 


United States . . .5.3 


76.0 


1,326 


Russia in Europe 






40.0 


110.0 


175 


Germany 






25.0 


56.4 


106 


Austria-Hungary 






25.0 


45.4 


82 


France 






26.8 


39.0 


45 


United Kingdom 






16.3 


42.0 


158 


Italy 






17.5 


32.5 


86 


Spain 






6.0 


18.6 


210 


* According to the French statistician, Professor Levasseur, the in- 


rease was from 175,000,000 in 1801 to 357,000,000 in 1891. 






3( 


30 







POPULATION STATISTICS 



301 



The striking differences in rates of growth between the 
United States and the older European countries shown by 
this table were undoubtedly due chiefly to the wealth of 
undeveloped natural resources that were available in the New 
World up to the very close of the nineteenth century. The 
different rates at which the populations of such countries 
as the United Kingdom, Germany and France are now in- 
creasing are not so easily accounted for. From 1901 to 1911 
the population of the United Kingdom increased 9 per cent, 
that of Germany 15 per cent and that of France only 1.5 per 
cent. Emigration played some part in lessening the increase 
in all three countries but less so in France where the in- 
crease was smallest, than in Germany where it was largest. 
The principal source of these differences must be sought 
in differences in the birth and death rates of these coun- 
tries. 

The following table gives the birth, death and marriage 
rates * of some of the principal countries of the world, to- 
gether with the resulting annual excess per 1000 of the popu- 
lation of births over deaths : 



BIRTH, DEATH AND MARRIAGE RATES, lS71-1890f 

Excess of Births 



Differences 
in Rates of 
Growth, 
1901-1911. 



Birth, 
Death and 
Marriage 
Rates of 
Different 
Countries. 





Births 


Deaths 


over Dea 


Austria 


. 38.6 


30.6 


8.0 


Germany 


. 38.1 


26.0 


12.1 


Italy . 


. 37.3 


28.6 


8.7 


Holland 


. 35.2 


22.6 


12.6 


United Kingdom 


. 32.6 


19.9 


12.7 


Denmark 


. 31.7 


19.0 


12.7 


Belgium 


. 31.0 


21.4 


9.6 


Norway 


. 30.7 


16.9 


13.8 


Sweden 


. 29.8 


17.6 


12.2 


Switzerland 


. 29.4 


22.1 


7.3 


France 


. 24.6 


22.8 


1.8 



8.1 
8.2 
7.8 
7.5 
7.2 
7.6 
7.1 
6.8 
6.5 
7.3 
7.7 



The first point to be noted from this table is that high Conclu- 
birth and death rates usually go together. Austria, Germany ^^ons. 
and Italy have the highest birth-rates and also the highest 

* That is, the average number of births, of deaths and of marriages 
that occur in a year for each 1,000 of the population. 

t These statistics are taken from Mayo-Smith, Statistics and Soci- 
ology, Book I., Chaps. V., VI. and VII. 



302 VALUE, PRICE AND DISTRIBUTION 

death-rates. This is partly because the death-rate for young 
children is always high * — and consequently the higher the 
proportion of young children in a population, as the result 
of a high birth-rate, the higher the general death-rate — and 
partly because a high birth-rate usually means a severe 
struggle for existence and a high death-rate for all classes. 
The second point worthy of consideration is that marriage- 
rates and birth-rates show little relation to each other. Thus 
Italy and France have almost the same marriage-rates al- 
though the birth-rate of Italy puts that country well up 
toward the head of the list, while France is at the bottom. 
The conclusion seems inevitable from this table that the 
principal factor influencing the birth-rate is not the pro- 
portion of married persons in the population but the 
willingness or unwillingness of such persons to have large 
families. 
The § 169. The first clearly formulated theory in regard to the 

Malthusian gj-Qwth of population was that advanced by the Kev. T. R. 

Theory of 

Population ^^^l^hus in his Essay on the Principle of Population as it 

Affects the Future Improvement of Society, published in 1798. 
Malthus's argument was mathematical in form, but so simple 
as to be easily followed. He advanced as too obvious to re- 
quire demonstration the propositions: (1) " that food is nec- 
essary to the existence of man," and (2) " that the passion 
between the sexes is necessary and will remain nearly in its 
present state." From these he proceeded on the basis partly 
of reasoning and partly of observation to the conclusion that 
while food tends to increase only by addition or in arithmetical 
ratio, population tends to increase by multiplication or in 
geometrical ratio. The significance of this contrast he makes 
clear in the following sentences: " Taking the population of 
the world at any number, a thousand millions, for instance, 

* In Bavaria, Austria and Italy nearly two-fifths of the children 
born die before attaining the age of five. Even in France, with its 
low birth-rate, one-fourth die during these critical years. Appalling 
as is this loss of infant life in Europe, it is as nothing compared with 
that which occurs in the Orient. Thus in Hong Kong in 1909 the 
deaths of children under one year of age were reported to be 87 per 
cent the number of births. 



THE MALTHUSIAN THEORY 303 

the human species would increase every twenty-five years * 
in the ratio of 1, 2, 4, 8, 16, 32, 64, 128, 256, 512, etc., and 
subsistence as 1, 2, 3, 4, 5, 6, 7, 8, 9, 10, etc. In two centuries 
and a quarter the population would be to the means of sub- 
sistence as 512 to 10 ; in three centuries as 4096 to 13 ; and 
in two thousand years the difference would be almost incal- 
culable, though the produce in that time would have increased 
to an immense extent." " The power of population is," he 
concludes, " indefinitely greater than the power in the earth 
to produce subsistence for man." Population, consequently, 
tends ever to press ahead of the means of subsistence, and is 
only restrained from so doing because without subsistence men 
must perish. In order to keep population within the limits 
fixed by a slowly increasing food supply, nature imposes 
checks which Malthus thought, at first, might all be included 
under the heads of " misery " and " vice." The lower ani- 
mals, he saw, obey the instinct to propagate without thought 
of the consequences, with the result that their numbers are 
kept down by " want of room or nourishment " or by their 
" becoming the prey of others." Man is more prudent and 
may deliberately restrain his impulse to beget and multiply 
his kind. ' ' This restraint, ' ' Malthus declared, ' ' almost neces- 
sarily, though not absolutely so, produces vice." But even 
with its vicious attendants, this last restraint is all too weak, 
he thought, to keep population within the necessary bounds. 
Through an excess of births the food supply is rendered in- 
sufficient, and misery accompanying death through starvation 
and disease appears as another necessary check for man as 
for the lower animals. Malthus 's general conclusion was that 
vice and misery result inevitably from the lack of harmony 
between man's impulse to beget and multiply and nature's 

* Malthus based his view that a population, if unchecked, would 
double every twenty-five years, on the actual rate of increase reported 
in his day from America. His estimate appears not unreasonable. 
Economists have calculated that a difference between the birth-rate 
and the death-rate of 30 would result in a doubling of a population 
in 23 years, and agree that such a difference might easily be found. 
In China a birth-rate of between 50 and 60 is said to prevail; while 
from New Zealand comes the report of a death-rate as low as ten. 
A birth-rate of 45 accompanied by a death-rate of 15 would not be at 
all impossible. 



304 



VALUE, PRICE AND DISTRIBUTION 



Its Influ- 
ence on 
Economic 
Thought. 



Criticism 
of the 
Theory. 



Current 
Theories : 



power to produce food, and he justified these evils as the 
divinely selected means for quickening intelligence and soul 
in men who might otherwise have no stimulus to improvement. 

More mature deliberation, stimulated no doubt by the bitter 
attacks which the publication of his opinions excited, induced 
Malthus to modify his argument in the second edition of his 
Essay (1803). He here recognizes that voluntary restraint 
not only need not, but often does not necessitate vice, and 
that it may alone prove an adequate check on population. 
By this qualification the " Malthusian theory " was changed 
from a pessimistic denial of the perfectibility of man to a 
reasoned appeal to men to substitute " moral restraint " as a 
check on population for the vice and misery which Malthus 
still deemed the chief means of holding the balance between 
it and the food supply. Notwithstanding these admissions, 
Malthus himself and many of the leading English economists 
who followed him, such as Ricardo and John Stuart Mill, 
continued to think of population as tending constantly to 
press ahead of the food supply. 

The most fundamental criticism to be urged against Mal- 
thus 's reasoning is that he contrasts a purely hypothetical 
man with an equally hypothetical nature. Speculating as 
to the rate at which population would increase if unchecked 
is idle when, as a matter of fact, men are never unchecked 
in their begetting and rearing of children. Even the lowest 
savage appreciates the tremendous consequences of the sexual 
function and is to some extent restrained by this knowledge. 
In the same way prophecies in regard to the utmost possible 
increase in the earth's output of food can furnish no solid 
basis for scientific reasoning, because man never has and prob- 
ably never will tax nature to her utmost. With all its sug- 
gestiveness, therefore, Malthus 's method of approaching the 
question predisposed him to arrive at erroneous conclusions. 
He avoided these in large measure in the second and later 
editions of his Essay, but only by giving such a different turn 
to his argument as to deprive it of much of its original sig- 
nificance. 

§ 170. Economists are still divided in their opinions in 
regard to the relatiye importance of the different influences 



INFLUENCE OF CUSTOMS S05 

that control the growth of population. In general they may 
be separated into three groups, depending upon whether they 
emphasize the physiological, the social or the economic factors 
which enter into the problem. 

The economists who make prominent physiological consider- The Physi- 
ations try to establish the general law that the reproductive oiogicai 
capacity of animals stands in a definite relation to the com- ^^^^ck. 
plexity of their nervous organizations. The more highly 
evolved the organism, the smaller, it is contended, will be the 
number of the offspring. Even if this theory were proved 
true in its application to different orders of animals, including 
man, it must remain open to question whether the subtle 
changes which are still going on in man's nervous organiza- 
tion influence appreciably his reproductive capacity. Reason- 
ing from analogy that because men beget fewer offspring than 
lower orders of animals, highly developed men and women 
must be less fruitful than those who are less developed is 
suggestive, but not conclusive. On the other hand, statistics 
of population have not yet been perfected to a point that 
makes a test of the theory in the light of the facts of experi- 
ence possible. If the theory prove to be well-founded it may 
help to set at rest the fears of modern Malthusians who con- 
tinue to dread the curse of over-population. It must still be 
regarded, howeVer, as an interesting hypothesis rather than 
as an established principle. 

That the growth of population is controlled by social cus- Thelnflu- 

toms and standards was recognized quite clearly by Malthus ^^^^ °^ 

himself. Among primitive peoples customs like that of allow- °^^^ 

„ . Customs, 

ing surplus female children to die from exposure at their 

birth have a direct influence on the growth of population and 
may serve as substitutes for all other checks. Marriage customs 
also have the greatest influence. Other things being equal, 
polygamous marriages are favorable to a rapid growth of 
population. This was clearly recognized by the founder of 
the Mormon Church and may explain the introduction of 
polygamy into that religion, notwithstanding the clear pro- 
hibition of the practice in the Book of Mormon itself. The 
extension of the system of monogamy tends to restrain the 
growth of population and has not been without influence in 



306 VALUE, PRICE AND DISTRIBUTION 

preserving European countries from the periods of famine 
that are still not unusual in the Far East. Other customs, 
such as that requiring that the husband shall be able to pro- 
vide a house for his wife, or that the wife shall have made 
with her own hands an elaborate trousseau before marriage, 
serve to postpone the period of marriage and indirectly to 
check the growth of population. As the customs and usages 
of different peoples are all molded to one common standard 
through international intercourse, the special restraints on 
population which once acted in particular localities will lose 
their force. It seems probable that social standards in future 
will be less concerned over the number than over the quality 
of the offspring. In recent years economists and sociologists 
have given increasing attention to the subject of eugenics, or 
race breeding. As yet efforts have been directed only toward 
stamping out undesirable lines of heredity. As time goes on, 
however, the attention given to the matter must inevitably in- 
fluence the minds of young persons and lead them to select 
their mates with clearer consciousness of their obligations as 
prospective parents of the next generation. 
Tiie § 171. Much more important than the physiological and the 

Economic gQgj^l factors is the economic factor in the population problem. 
The most obvious and certain economic cheek upon population 
is that emphasized by all writers since the subject began to 
attract attention, namely, the need common to all men for food, 
clothing and shelter as conditions to continued existence. Pop- 
ulation is checked by starvation, disease and death as soon as 
the number of the people reduces the earnings of the lowest 
grade of wage-eamers below what is needed to maintain and 
rear an average family. This " positive check " is unfortu- 
nately of more than historical interest. Every year or two 
some portion of the world, Russia, India, China, is gripped by 
famine. Although some relief from the outside may now be 
counted on during these periods of famine, it is usually in- 
sufficient to prevent a great increase in the death-rate. Fam- 
ines no longer occur in the more progressive countries of the 
"West, but each of these has its " submerged tenth " of un- 
fortunates who suffer habitually from under-nutrition and 
resulting disease and death. The members of this class are 



Check. 



THE STANDARD OF LIVING 307 

constantly changing. Those who neither die nor win their 
way back to the classes from which they descend, are forced 
in time to apply for institutional relief and to enter the still 
lower class of avowed social dependents. It follows that the 
normal tendency of the class is toward self-extinction. It is 
perpetuated, if not actually added to, in countries like the 
United States, by the steady stream of recruits that descends 
to it from the higher industrial classes. 

Actual starvation confronts more rarely those belonging Influence 
to the class of manual workers, but for them also under-nutri- °^ *^^ 
tion is a possibility which prolonged illness or inability to . 

obtain employment may at any time change into a reality. 
The narrow margin which their usual earnings provide above 
the bare necessaries of life, coupled with their lack of accumu- 
lated savings, makes them especially liable, when some tem- 
porary calamity reduces their incomes, to sink permanently 
below the line of self-support and self-respect. At the same 
time, for this class as a whole it is not disease and death, but 
sacrifices induced by the desire to maintain the " standard of 
living," that act as the principal check upon the growth of 
population. As this check acts in about the same way, 
although not in the same degree, on all classes above 
the very lowest, its influence may be discussed in general 
terms. 

§ 172. The population of a country like the United States A Station- 
is divided up into hundreds of different classes, each dis- aryPopu- 
tinguished by special industrial qualities and having a differ- 
ent earning capacity from the others. The general law apply- 
ing to the earnings of all classes is that an increase in the 
number of persons competing for any particular grade of 
work tends to lower the wages paid for that kind of work. 
The tendency may be counteracted by an increased demand 
for the grade of work concerned, or by similar increases in 
the supplies of workmen and of capital goods all along the 
line unaccompanied by any lowering of the margin of cultiva- 
tion, but in the absence of these changes it is always to be 
reckoned with. As already explained (Section 147) different 
classes are more or less clearly marked off from one another 
and it is a usual thing for children to fit themselves for the 



308 



VALUE, PRICE AND DISTRIBUTION 



Conditions 
Necessary 
to a Low 
Birth-rate. 



grade of work done by their parents. In a stationary society 
the number of workmen in each grade would need to be kept 
constant if a change in wages was to be avoided. Children in 
each grade would need, on the average, just to replace those 
withdrawn by death, or the birth-rate for each grade would 
need just to equal the death-rate, if there was to be no reduc- 
tion in the standard of comfort. Although France alone 
among modern countries presents a practically stationary pop- 
ulation, it will be useful to note what this condition of affairs 
would involve as regards the habits of a people before passing 
to a discussion of the limitations which are active in a progres- 
sive society. 

The standard of living has been defined as the " mode of 
activity and scale of comfort which a person has come to 
regard as indispensable to his happiness, and to secure and 
retain which he is willing to make any reasonable sacrifice." 
From the point of view of the growth of population the sac- 
rifices which the maintenance of the standard of living may 
entail are the postponement of marriage and the restriction 
of births after marriage. In the assumed situation these sac- 
rifices would have to be incurred to the extent necessary to 
prevent population from increasing at all. Consider what 
this might involve for any given class in the population. As 
children attained maturity and began to seek for employment 
they would_ find the number of desirable positions limited and 
the competition for them severe. This discovery would affect 
different ones quite differently. Some in every class would 
accept the best positions they could get, adjust themselves to 
the limited incomes these positions afforded and marry early 
without much regard to consequences. They would be likely 
to have larger families than they could easily provide for 
and might be so discouraged in the struggle that they would 
fail to maintain their standards of living or to give their 
children as good starts in life as they themselves had enjoyed. 
Or, instead of being discouraged by the difficulties they en- 
counter, they might only be inspired to put forth greater 
efforts. Marriage is the spur to lagging ambition which many 
young people require, and instead of preventing them from 
attaining the best and highest of which they are capable it 



PROGRESS AND STANDARDS 309 

proves often the very means of helping them to such attain- 
ment. Such people raise their standards of living rather than 
lower them as their responsibilities multiply, and conceive 
plans for their children that they would have been incapable 
of forming for themselves. Besides those who marry early, 
there would be others with greater prudence who refused to 
assume the responsibilities of married life until they were 
well established. By the time such persons felt able to marry 
their inclination to do so might have passed, or, if they did 
marry, their families would be likely to be small. Allowing 
for men and women who do not marry at all, for childless 
marriages and for infant mortality, which is high in even the 
most advanced communities, we may conclude that the pru- 
dence and forethought of only a part of the members of each 
class would keep a population stationary, even though a large 
number were quite reckless in their marriage relations. Ex- 
cessive prudence on the part of some would serve to offset 
complete recklessness on the part of others. 

In a progressive society like the United States the condi- Progress 
tions differ from those just described only to the extent that ^^^ 
progress permits an increase in population without any lower- . 

ing of the standards of living. If the rate of progress is rapid 
enough standards may be maintained and even advanced at 
the same time that population is growing as rapidly as early 
marriages and large families permit. Under such circum- 
stances the power of resistance which the standard of living 
offers is not brought into play at all, and it is more accurate 
to speak of wages as determining the rising standard than of 
the standard as determining the rising wages. Few countries 
are so favorably situated as this. Even in the United States, 
especially as regards the higher industrial classes, population 
has been held in check by the standard of living. In periods 
of great prosperity the tendency is for earnings to increase 
and for standards to rise. The causal relation is from wages 
to the standard. In times of depression the higher standard 
is maintained and serves to prevent the fall in wages that 
would inevitably follow if births continued to be as numerous 
as they were before. The causal relation is now from the 
standard to wages. 



310 



VALUE, PRICE AND DISTRIBUTION 



Population 
Should 
Grow at the 
Top, Not at 
the Bottom. 



Growth of 
Population 
in China. 



Economists have been too much inclined to ignore the 
psychological results of marriage in their discussions of the 
population question. In a progressive community, the fact 
to be deprecated is not so much a rapidly growing popula- 
tion, as a population which is increasing more rapidly at the 
bottom than at the top. Early marriages and large families 
for those manual workers who seem incapable of achieving or 
even aspiring to any higher standard of living than that to 
which they were born are socially harmful. What is needed 
by persons of this type is a wider ambition, coupled with 
the prudence necessary to the attainment of the objects which 
it suggests. Persons in more prosperous circumstances, on the 
other hand, are apt to suffer not from lack of prudence, but 
from lack of sane and wholesome desires. Their standards of 
living are largely artificial and for them early marriages and 
large families are more likely than not to prove a benefit by 
stimulating and giving a wiser direction to ambition. Even 
should the result be a lowering of the earnings of the class 
to which such individuals belong, the consequence, socially 
considered, may not be disadvantageous, if it does not at the 
same time lower the earnings of the Jess well-to-do classes. 
An equalization of earnings through a multiplication of pro- 
fessional and skilled workmen and a reduction of manual 
workers would be highly desirable. 

§ 173. It is suggestive to compare the situation as regards 
the population question of two countries which are at opposite 
poles in their conduct with reference to this matter, China 
and France. 

A recent writer on China describes conditions in that coun- 
try as follows : * "It is believed that unless twice a year 
certain rites are performed and paper money is burned at a 
man's grave by a male descendant, his spirit and the spirits 
of his fathers will wander forlorn in the spirit world ' begging 
rice ' of other spirits. Hence Mencius taught ' there are three 
things which are unfilial ; and to have no posterity is the 
greatest of them.' It is a man's first concern, therefore, to 
assure the succession in the male line. He not only wants 
a number of sons, but — since life is not long in China and 
* Ross, The Changing Chinese, pp. 96-98. 



POPULATION IN CHINA 311 

the making of a suitable match for a son is the parent's pre- 
rogative — he wants to see his son settled as soon as possible. 
Before his son is twenty-one he provides him with a wife as 
a matter of course, and the young couple live with him until 
the son can fend for himself. There is none of our feeling 
that a young man should not marry until he can support a 
family. This wholesome pecuniary check on reproduction 
seems wholly wanting. The son's marriage is the parents' 
affair, not his; for they pick the girl and provide the home. 
... As the bride must be younger than the groom, early 
marriage for sons makes early marriages for daughters. The 
average age of Chinese girls at marriage appears to be sixteen 
or seventeen, although some put it at fifteen. ... At twenty 
practically all girls, save prostitutes, are wives and five-sixths 
of the young men are husbands. This means that in the 
Orient the generations come at least a third closer together 
than they do in the Occident. Even if their average family 
were no larger than ours, they can outbreed us, for they get 
in four generations while we are rearing three. But their 
families are larger because their production of children is not 
affected by certain considerations which weigh with us. . . . 
The very atmosphere of China is charged with appreciation 
of progeny. From time immemorial the things considered 
most worth while have been posterity, learning and riches — 
in the order named." 

The result of these beliefs and habits is seen in the Chinese 
birth-rate, estimated by competent authorities to be between 
50 and 60. As the country is already densely populated, 
the pressure of population on the food supply makes the 
struggle for existence intense and the positive check which 
Malthus depicted is constantly active. As a consequence no 
problem is more important for China than educating her 
people out of the beliefs which now make them so reckless in 
their marriage relations. 

In striking contrast with these beliefs and habits are those Growth of 
which control the growth of the population of France. There, Population 
as in China, marriages are usually arranged by the parents 
of the contracting parties, but the motives which influence 
them and which control husbands and wives after marriage 



312 VALUE, PRICE AND DISTRIBUTION 

are very different. In the minds of the parents the desire 
for grandsons is overshadowed by the desire to see sons and 
daughters happy and successful. As a rule, instead of urging 
their sons to marry early, French parents impress upon them 
the importance of not marrying until they are in a position 
to support a family. As regards their daughters they are 
torn between the fear that if marriage is postponed too long 
the opportunity for a good match may be missed and the 
desire to retain their daughters at home, partly for the sake 
of their society and partly because French custom requires 
the provision of a dowry. Under these circumstances it is 
not surprising to find that the average age at the time of 
marriage of French men is over twenty-nine and of French 
women nearly twenty-six. More mature at marriage French 
husbands and wives consider it less important to have large 
families than to rear tenderly and well the two, three or 
four children for whom adequate provision can be made 
out of the limited family income. The consequence is that 
the average number of children to a family in France is only 
three. Since in France as in other Western countries there 
are many bachelors and spinsters and since, as already stated, 
one-fourth of the children who are born die before attaining 
the age of five, this barely suffices to prevent the population 
from declining. Thus in France the population problem is 
the problem, not of keeping down numbers, but of keeping 
up numbers. Unlike Malthus, French economists view, not 
over-population but " race-suicide " as the menace against 
which measures must be taken if the prosperity of their 
country is to be preserved. 
Conclu- As between the opposing tendencies represented by China 

and France, there can be no doubt that it is the example of 
France that progressive countries are likely to imitate in the 
future. Although in no other country are birth and death 
rates so nearly equal, there is a general tendency among 
Western countries for birth-rates to decline and on the whole 
at a more rapid rate than death-rates, which are also falling. 
The same influences that have made the population of France 
practically stationary seem likely as time goes on to operate 
with equal force in other countries. One factor in this change 



sions. 



POPULATION AND STANDARDS 313 

that is certain to prove highly important is the growing eco- 
nomic independence of women and the increasing influence 
which their desires must exert on marriage relations. In the 
past the population question has been discussed as though it 
were exclusively a man's question. It was to men that Mal- 
thus and his followers addressed their appeals for greater 
prudence and self-restraint in connection with marriage. But 
the burden of bearing children and most of the trouble of 
rearing them falls upon mothers rather than upon fathers. 
While there is no doubt that the great majority of women 
will continue to desire to become wives and mothers, since 
survival is necessarily confined largely to this type of woman, 
it is equally certain that they will not desire to be mothers 
of indefinitely large families. As in France so in other coun- 
tries in the minds of both mothers and fathers, the desire to 
rear two to four children well is likely to supersede the desire 
for the patriarchal families of the past. The change will come 
slowly, because social habits alter slowly, but already it has 
gone so far in Western countries that little more is heard 
of the danger of over-population. 

In the opinion of most contemporary economists the stand- The 
ard of living is an effective means of control over the growth Growth of 

of population, and the tendency among progressive countries „°^^ ^.^''f 
„ . ' -, -, . , . , , Controlled 

generally is tor standards to rise and to insure to the rank ^ 

and file of the population ever larger command over the standards 
material conditions necessary to happy homes and happy lives, of Living. 
This opinion rests not only on general considerations but on 
the undoubted fact that the real earnings of the manual labor- 
ing class are larger than at any previous stage in the world's 
history. The primary cause of their improvement has been 
the improved methods of production that have been referred 
to frequently in these pages. Rising standards of living have, 
however, been a secondary cause, since but for them population 
would have kept pace with the new methods and prevented 
the earning capacity of the bare-handed workman from in- 
creasing. Before attempting a summary statement in refer- 
ence to the influences controlling the growth of population 
and through it wages, it will be well to consider how the 
growth of capital or wealth is controlled. 



314 



VALUE, PRICE AND DISTRIBUTION 



The Growth 
of Capital. 



Increase in 
Wealth in 
the United 
States. 



§ 174. As in discussing the growth of population, so in dis- 
cussing the growth of capital, we will begin with a brief study 
of the facts and consider subsequently theories touching the 
causes controlling capital accumulation. Unfortunately statis- 
tics in regard to the growth of capital are usually available 
only as they are included in statistics of wealth generally and 
are much less trustworthy than are statistics of population. 
For these reasons we will confine our inquiry to the United 
States. The statistics for other lands, could we examine them, 
would confirm the impression that those for the United States 
convey — that the present tendency in progressive countries is 
for capital to increase at a more rapid rate than population. 

The following table gives the estimates of the total wealth 
of the country in its various forms in 1890, 1900 and 1904 
made by the United States Census Bureau: 



TOTAL WEALTH IN THE UNITED STATE8 
($1,000,000,000) 



E«al estate with improvements . . . . 

Live stock on farms, farm implements and 
machinery ....... 

Gold and silver coin and bullion 

Manufacturing and mining machinery and prod- 
ucts on hand . ...... 

Railroads and equipment . . . . . 

Street railways, telegraphs, etc. 

Miscellaneous ....... 

Total 

Average per capita ...... 



1890 


1900 


1904 


39.5 


52.5 


62.3 


2.7 


4.1 


4.9 


1.2 


1.7 


2.0 


4.4 


9.0 


11.1 


8.7 


9.0 


11.3 


0.7 


3.5 


4.8 


7.9 


8.7 


10.7 


65.1 


88.5 


107.1 



$1,039 $1,163 $1,310 



Growth of 
Capital in 
Agriculture 
and Manu- 
facturing. 



These statistics are little better than rough estimates, so too 
much reliance must not be placed on the exact accuracy of 
the conclusion to which they point, that is, that, during the 
fourteen years covered per capita wealth increased over 26 
per cent. More trustworthy are the following statistics show- 
ing the increase, for each decade since 1850, of the value of 
all farm property in the country and of the capital invested 
in manufactures. 



GROWTH OF CAPITAL S15 









Capital 






Value of all 




Invested in 






Farm Property 


Increase 


Manufactures 


Increase 




($1,000,000,000) 


Per Cent 


($l,000,i000,000) 


Per Cent 


1850 


4.0 




0.5 




1860 


8.0 


100 


1.0 


100 


1870 


8.9 


11 


2.1 


110 


1880 


12.2 


37 


2.8 


33 


1890 


16.1 


32 


6.5 


132 


1900 


20.4 


26 


9.8 


51 


1910 


41.0 


100.5 


18.4 


88* 



From these figures it may be inferred that the wealth of 
the country was nearly if not quite doubled in the ten years 
from 1900 to 1910. As population increased only 21 per 
cent during the decade, the statement that capital grew more 
rapidly than population appears abundantly "justified. 

In interpreting these and other statistics of wealth and cap- Necessary 
ital great caution is necessary. Where such statistics have Cautions, 
been collected by the inventory method, as is attempted in 
the United States, important items are sure to be omitted 
while other items are sure to be duplicated. On the other 
hand, where such figures are calculated from returns as to 
incomes from different sources, errors may arise either from 
inaccuracies in the incomes reported or from mistakes in the 
method by which the amount of capital giving rise to incomes 
is inferred from the amount of incomes. Another difficulty 
is encountered when it is attempted to infer statistics in 
reference to capital from statistics of general wealth. The 
normal effect of an increase in capital is a decline in the rate 
of interest, but this serves itself to increase the value of lands, 
monopolies and other sources of funded incomes. It follows 
that as capital increases and the rate of interest falls, the 
apparent increase in wealth is likely to be much greater than 
the actual increase in economic goods. Still another source 
of error is in changes in the prices of goods. From 1900 to 
1910 general prices were almost continuously rising and this 
partly accounts for the phenomenal growth of wealth credited 

* From the figiires for 1910 capital invested in hand and neighbor- 
hood industries was excluded. The same exclusion applied to 1900 
would have made the total capital for that year $8,975,000,000, so the 
increase from 1900 to 1910, on a fair basis of comparison, was 105 
instead of 88 per cent. 



316 



VALUE, PRICE AND DISTRIBUTION 



Present 

Goods 

Preferred 

Above 

Future 

Goods. 



Reasons 
for This 
Preference. 



to that decade. For these and other reasons statistics of wealth 
and capital must be interpreted with great care if serious 
errors are to be avoided. We have now to consider theories 
as to the causes which control the growth of wealth or the 
accumulation of capital. 

§ 175. Since capital goods owe their existence primarily to 
a willingness on the part of men to postpone consumption or 
to save, the increase of such goods is affected by everything 
which influences this willingness. What, then, are the in- 
ducements to saving and what the opposing motives for spend- 
ing? The motives for spending have already been considered 
(Section 40). It is the tendency of men to overestimate the 
importance of the present in comparing it with the future, 
and this leads them normally to prefer present command over 
consumable goods to future command over goods of like kind 
and quantity, present gratifications to similar gratifications 
at some future date. 

Four reasons may be assigned for the above tendency. 
First and most obvious is the fact that provision for present 
necessities is the indispensable condition to the continuance of 
life. The shipwrecked mariner who has provided himself 
with subsistence for one week has no choice between con- 
suming it this week or next month. His present need for food 
must be satisfied and must loom larger in his consciousness 
than his need at some future time. This fact prevents men 
from saving that portion of their incomes required for pres- 
ent necessities. Secondly, the future is uncertain. No man 
knows, when making provision for the future, that he will 
live to enjoy it. This was summed up in pagan philosophy 
in the phrase, " eat, drink and be merry, for to-morrow we 
die." The Christian religion also emphasizes the uncertainty 
of life in that it directs men to take no thought for the morrow, 
but to devote their days to good works and the preparation 
of the spirit for the immortal life to come. Either course is 
obviously unfavorable to the accumulation of capital. A third 
reason is found in man's deficiency in imagination. Present 
wants are actually felt, those of the future are only imagined. 
The consequence for the average man is an underestimate of 
the importance of future gratifications which makes him un- 



MOTIVES TO SAVING 317 

willing to forego present pleasures on their account. Finally, 
a fourth reason is man's lack of resolution or will. Many 
who have the most vivid imaginations are, nevertheless, pro- 
verbially improvident. This is because they have not the 
strength of character to resist the temptations of the present 
and provide in advance for the needs of the future which they 
so clearly foresee. 

These reasons combined predispose the average man to Influence 
spend his income as he receives it. The proportion that he of These 

will spend depends in a measure on the amount of that income. ^ 

^ ^ Depends on 

If it is small, most, if not all, must go for present necessities. Amount of 
The poverty of the poor is itself the greatest obstacle to their indi- 
ever becoming rich. Those who are more fortunately situated vidual's 
compare in their minds present comforts and provision in Ii^come. 
advance for future necessities, or present luxuries with future 
comforts. "With an ample income even the most improvident 
person is likely to make some provision for the future. More 
prudent people are likely to save something though their in- 
comes be small. 

The strongest counter-motive to spending is the desire to The Motives 
provide for one 's self and one 's family after old age has come *° Saving, 
and earning power has been reduced or has failed altogether. 
This is important because it applies to nearly every one. Its 
practical consequences are reflected in the vast sums which 
are paid each year in progressive countries as premiums to life 
insurance companies.* Some of these payments secure for 
the family a fixed sum upon the death of the insured. A more 
common form of policy at present, however, is one which calls 
for payment of the principal after a certain number of years, 
even though death has not occurred. This reflects clearly the 
general appreciation of the fact that old age means usually 
diminished earning power. Next in importance to the desire 
to provide for old age as a motive to saving is ambition to 
command social esteem, power and influence. That " wealth 
is power " of a certain kind is a fact universally appreciated. 
Those who covet power at the present day are very apt to seek 
it through the avenue of wealth accumulation. Though less 

* The annual incomes of such companies in the United States, derived 
chiefly from premiums, exceed $800,000,000. 



S18 



VALUE, PRICE AND DISTRIBUTION 



Progress 
Strength- 
ens These 
Motives. 



general tlian the first motive^ this is doubtless the dominant 
consideration to those men who acquire the largest fortunes. 
A third motive to saving is the interest which may be obtained 
for the use of capital, which is itself traceable to the superior 
efficiency of capitalistic production. Economists have tended 
to exaggerate this motive in declaring that " interest is the 
reward of saving." It is certainly not true that interest is 
the only reward or even the chief reward of saving, or that 
the greater part of the saving which now occurs would cease 
if the interest now paid for the use of capital were to be with- 
drawn. Interest is the reward of saving, however, in the 
sense that all those who save under present industrial con- 
ditions may, and as a rule do, receive interest as one of their 
compensations. Furthermore, to some of those who save in- 
terest is the reward that is chiefly considered, and the rate 
of interest has a determining influence on the amount of in- 
come they are willing to save. A fourth motive to the 
accumulation of capital is ambition for business success. 
Many of the men who succeed best in business in the United 
States seem devoid of other ambition. They have become 
absorbed in the game of making money and persist in it be- 
cause it interests them more than anything else, though they 
have no very clear idea to what use they will put their fortunes 
after they are acquired. To £4ich men business success is the 
all-important object, and capital is accumulated simply be- 
cause it is a necessary step toward the attainment of the goal. 
Comparing the four motives inducing men to save with 
those inducing them to spend, we may conclude without 
argument that progress tends to strengthen the first and to 
weaken the last. The pressure of current needs, the uncer- 
tainty of life, lack of imagination and weakness of will are 
all becoming less prominent influences shaping the conduct 
of the average man. On the other hand, desire to provide 
for the family, social ambition, willingness to postpone con- 
sumption for the sake of interest and ambition for business 
success seem on the increase. These changes are responsible 
for the tendency already described for capital goods to mul- 
tiply more rapidly than population, for the operation of the 
law of diminishing returns as regards capital as a whole and 



ULTIMATE DETERMINANTS 319 

for the declining rate of interest so marked in the United 
States, in the last one hundred years. The same tendencies 
are operative in all progressive countries and explain the fact 
that economics from being a " dismal science " has become 
a study from which highly optimistic conclusions may be de- 
duced. 

§ 176. In the explanation of distribution that has been The 
given, great importance has been ascribed to the productive- Ultimate 

ness of labor and capital in marginal industries, and it has ^ ei'i^i- 

. . nants of 

been stated that the location of the margin of production Distribu- 

depends upon the extent of the land and natural resources of tion. 
a country in proportion to its population and capital. We 
have just considered the various influences that control the 
growth of population and of capital, and we are now in a 
position to indicate the ultimate determinants of distribution. 
In the isolated life of a Crusoe economic conduct requires 
an exact balancing of the marginal gratifications, or utilities, 
derived from consumption and the marginal sacrifices, or 
disutilities, involved in production (Section 53). Work should 
be carried to that point at which pleasure ceases to com- 
pensate for sacrifices and at that point it should stop. In 
industrial society economic relations are vastly more complex. 
Marginal utilities are calculated, not by each individual sepa- 
rately, but by" groups of individuals. Marginal disutilities 
include not merely effort, but also postponed consumption. 
They also are calculated, not by each individual separately, 
but by groups of individuals, some of whom contribute the 
efforts necessary to production and others the waiting neces- 
sary to the existence of the capital goods indispensable to 
efficient production. In explaining distribution we started 
with the valuations which consumers place upon goods and 
analyzed the causes which control the division of the values 
so determined among the factors which cooperate in produc- 
tion. But consumers are as a rule themselves producers. 
Like Crusoe, though in a less simple and direct way, they 
compare the utilities of the goods they consume with the 
disutilities connected with the part they play in production. 
This is not true of consumers whose wealth comes to them 
because they control sources of fixed income, since such per- 



320 VALUE, PRICE AND DISTRIBUTION 

sons make little or no present sacrifices as a condition to 
securing command over purchasing power. Nor is it true of 
consumers who receive interest for capital they have accumu- 
lated, not in order that they may secure interest, but in 
deference to one or more of the other motives that have been 
described. Such consumers also make no present sacrifice in 
return for the purchasing power they receive. Nor is it true 
of workmen who find their work a pleasure and whose hours 
are fixed not by calculations of marginal disutility which 
they themselves make, but by standards determined by the 
weaker members of the industrial groups to which they be- 
long.* It is true, however, of capitalists who are just induced 
by the promise of the current rate of interest to save and 
invest in preference to spending. Such men balance the 
marginal utilities of the goods which the interest will enable 
them to command against the marginal disutility of deferring 
consumption. It is also true of the marginal workmen in 
each group who determine by their calculations the length 
of the workday for their class. For them the marginal dis- 
utility of the final hour's labor is a painful reality which 
they balance in their minds against the added goods which 
the pay for this last hour enables them to command. If the 
balance is on the negative side they are ripe for a strike for 
a shorter workday, and if their feelings are the feelings of 
their group they are likely to secure it. 
The Besides the calculations which determine the accumulation 

Balancing ^^ capital and the length of the normal workday, there are 
. . . others which fix standards of living and through them in- 
Disutilities. Auence the rate at which the working population increases. 
To maintain wages men in different industrial groups incur 
the sacrifices involved in a postponement of marriage or re- 
striction of births after marriage, and in the long run these 
sacrifices are compensated, and only just compensated, so 
far as the standard of living controls wages, by the higher 
earnings which such conduct insures to the class benefited. 
A full analysis of the motives that enter into the balancing 

* For example, many a mechanic who limits his work to eight hours 
a day, would gladly work an additional hour for proportionate pay, 
but is prevented from so doing by loyalty to the rule of his union. 



CONCLUSION 321 

of utilities and disutilities in industrial society, and of the 
equilibrium that results from them, belongs to a more ad- 
vanced treatise on economics. In actual progressive societies 
changes occur so frequently that an exact balancing is some- 
thing constantly aimed at, but never secured. In men 's efforts 
to realize it, the ultimate determinants of value and distribu- 
tion are, however, to be sought. 

REFERENCES FOR COLLATERAL READINa 

* Mayo-Smith, Statistics and Sociology, Book I., Chaps. V., VI. and 
VII., and Statistics and Economics, Book I., Chap. V.; *Fetter, Prin- 
ciples of Economics, Chap. XLIII.; * Bullock, Selected Readings in 
Economics, Chap. IX.; *Clark, The Disti'ibution of Wealth, Chap. 
XXIV.; * Marshall, Principles of Economics, Book IV., Chaps. IV. and 
VII., and Book VI., Chap. XI.; Bohm-Bawerk, The Ultimate Standard of 
Value (article in Annals of American Academy of Political and Social 
Science, Vol. V., pp. 149-208) ; *Taussig, Principles of Economics, Chaps. 
LII. and LIII. 



CHAPTER XIX 

MONEY AND THE MONETARY SYSTEM OF 
THE UNITED STATES 

TheDis- § 177, As has already been pointed out (Section 85) every 

advantages extension of cooperation and the division of labor, beyond 
the simple division of tasks possible within the family, must 
be accompanied by a corresponding development of the system 
of exchange. The simplest kind of exchange is barter; but 
this has serious drawbacks, since it can take place only when 
two traders come together, each having in his possession a 
commodity preferred by the other. Even this situation will 
not lead to an exchange unless the parties can agree as to 
the terms of the bargain. Thus, under the system of barter, 
the American Indian with a pony to dispose of had to wait 
until he met another Indian who wanted a pony and at the 
same time was able and willing to give for it a blanket or 
other commodity that he himself desired. Even when pony 
and blanket came together an exchange through barter might 
be prevented by the fact that one of the owners thought his 
commodity worth somewhat more than that of the other. 
Neither pony nor blanket could be divided without loss in 
value, and in consequence higgling over the trade would be 
quite as likely to lead to a quarrel as to a transfer of property. 
The Nature The inconveniences connected with barter led, at an early 
andFunc- pg^JQ^j jjj ^^g history of civilization, to the introduction of a 
Monev medium of exchange, or money. Although no exact account 

of the steps preceding this important innovation has been 
preserved, it is not difficult to reconstruct in imagination the 
circumstances which determined the choice of the medium of 
exchange and caused it gradually to come into general use. 
Inability to barter surplus products for the exact commodities 
desired must have suggested the feasibility of bartering them 
for other products that were in more general demand, more 

332 



FUNCTIONS OF MONEY 323 

durable or for some other reason more exchangeable. Thus 
the owner of surplus game who was unable to get for it the 
arrow-heads he desired, would be glad to accept instead some 
durable ornament generally prized in the communit}^ such as 
a string of beads. His chance of exchanging this for arrow- 
heads would be excellent, and would certainly be preferred 
to the prospect of having his game spoil on his hands. In 
some such way commodities must have come to be distin- 
guished, even in primitive communities, by reference to their 
exchangeability, and the most exchangeable commodities must 
gradually have come to be used as media of exchange. 

Quite as important as a medium of exchange to the de- Money a 
velopment of an industrial community is a standard, or com- Standard 
mon denominator, by means of which the values of commodi- ° ^ ^^' 
ties may be compared. Without such a standard the value 
ratio between each commodity and every other dealt in must 
be remembered by the trader. For example, if he deals in 
ten commodities there will be forty-five ratios of exchange to 
be remembered. The use of a standard of value enables him 
to substitute for these forty-five possible exchange ratios the 
nine ratios between the selected commodity and the others. 
The smaller number of ratios under the new system tell ex- 
actly the same story as the larger number did before. Thus, 
instead of remembering that a string of beads is worth four 
deer, that two deer are worth an arrow-head and that two 
arrow-heads are worth a string of beads, it suffices for the 
trader to remember that a deer is worth one-quarter, and an . 
arrow-head one-half of a string of beads. To serve as a 
standard, or common denominator, of value is a second func- 
tion of money, and to fulfil it, as to fulfil the first, the com- 
modity selected for the purpose must possess in high degree 
the quality of exchangeability. 

In addition to serving as a medium of exchange and a Also of 
standard for comparing exchange values, money, or the mon- l>eferred 
etary unit, serves in modern industrial communities as the 
medium for credit transactions, or deferred payments. Prom- 
ises to pay in the future for value received in the present are 
habitually expressed in terms of money. To serve as a stand- 
ard for deferred payments is thus money's third function. 



324 MONETARY SYSTEM OF UNITED STATES 



Prices and 
the Value 
of Money 
Vary 
Inversely. 



Stability 
of Value 
Necessary 
to a Good 
Money. 



Various 
Commodi- 
ties Have 
Served 
as Money. 



§ 178. Price, as already explained, is exchange value 
measured in terms of money. In the United States and other 
gold-standard countries prices express the value ratios be- 
tween the commodities priced and gold. To say that a bushel 
of wheat is worth $1 is equivalent to saying that a bushel of 
wheat will exchange for 23.22 grains of pure gold, since this 
is the standard dollar of the country. If the price of wheat 
should rise to $1.25 (i. e., to 29.02| grains of pure gold), 
the value of gold measured in terms of wheat will have fallen 
correspondingly. One dollar, or 23.22 grains of gold, will 
now exchange for only four-fifths of a bushel of wheat. Thus 
every change in price registers a reciprocal change in the 
exchange value of gold measured in terms of the commodity 
priced. To determine whether any given change in prices was 
due to a change in the value of the commodity, or in the value 
of gold, the standard money, it would be necessary to make 
a general comparison in which all important commodities were 
included for the two periods. If it should be found through 
such a comparison that while the price of wheat rose other 
prices remained constant or fell, it might fairly be concluded 
that the value of gold had not fallen and that the change was 
due to a rise in the value of wheat. If, on the other hand, 
the comparison showed that the prices of all or nearly all 
commodities had risen together, as has been the case in recent 
years in the United States, the conclusion would necessarily be 
that the value of gold had fallen. 

Some writers describe money as the measure of values, but 
it is evident that as a measure it is not in the same class as 
a foot-rule or a bushel. It is a convenient standard for com- 
paring values or a common denominator to which all values 
may be reduced; but as a measure of values in any absolute 
sense it is untrustworthy, since it is itself variable in value. 
This variability is a source of annoyance and loss to the busi- 
ness community, and hence stability of value is one of the 
qualities most essential to a good money. 

§ 179. Present-day monetary systems are the result of an 
historical evolution. In the past, in different countries, nearly 
every kind of commodity has served as money. The ox is 
the standard of value referred to in the earliest literature 



QUALITIES OF GOOD MONEY 325 

of Greece and Rome. In Africa cubes of salt have been used. 
Tea was used at one time in parts of Asia. In America the 
Indians used strings of beads, which they called wampum, 
and for a time wampum was also used for small payments 
among the colonists of New England. In Virginia tobacco 
long served as the standard of value, and efforts were made 
to fix by law the value ratio between it and the coins which 
found their way to the colony from Europe. As a result 
of experiment, all civilized countries have now come to the 
use of the metals as money, and all of the more important 
commercial countries have fixed upon gold as their standard 
and relegated other metals to a subordinate position in their 
monetary systems. The reasons for the preference for gold 
become clear from a consideration of the qualities which should 
be possessed by a good money. 

Economists quite general^ agree that the commodity dualities 
selected to serve as money should have the following qualities : ^ ^ 
(1) value, (2) durability, (3) portability, (4) homogeneity, 
(5) divisibility, (6) cognizability and (7) stability of value. 
That the commodity which is to serve as the intermediary 
between valuable things must itself have value is obvious. 
This value may be to some extent independent of the mon- 
etary use, as in the case of gold coin, or entirely derivative 
from the monetary use, as in the case of paper money. Dura- 
bility is important because after each exchange transaction 
the medium of exchange must remain for a longer or shorter 
time in the possession of the seller. Unless it is durable, it 
will depreciate during this interval to the seller's loss. This 
consideration precludes the use of perishable articles as money 
and accounts for the world 's preference for the metals. Port- 
ability is indispensable to the convenience of a medium of 
exchange. Other things being equal, the commodity which 
compresses the greatest value in the smallest bulk is the most 
economical medium of exchange for large transactions. In 
this respect gold is superior to silver and this accounts in 
part for the preference for it of leading commercial nations. 
Homogeneity and divisibility are related qualities, since to- 
gether they insure that the commodity used as money may 
be divided and subdivided without loss in value. These quail- 



326 MONETARY SYSTEM OF UNITED STATES 

ties also distinguish the metals. Cognizability is important as 
it renders difficult the circulation of counterfeit money. One 
objection to silver is the resemblance to it of the baser metals, 
lead and tin. The last quality, stability of value, is essential 
in connection with the function which the monetary unit per- 
forms as a standard of deferred payments. In the absence 
of such stability creditors and debtors have no guarantee that 
the contract between them calling for the payment of a certain 
sum of money at a future date will involve the return of a 
value equivalent to that loaned. If the value of money rises 
in the interval the debtor will be injured, if it falls the cred- 
itor will receive less than he anticipated. Either event must 
discourage transactions involving such an uncertain element, 
and it is for this reason that the importance of stability of 
value in the commodity which is to serve as money can hardly 
be exaggerated. As regards this quality also gold has a 
marked superiority over most other things. The demand for 
it is very elastic because it serves such a variety of different 
purposes. It is highly prized for ornament; it is used in 
watch-cases, family plate, etc., as a badge of social position ; 
it serves important industrial uses in connection with den- 
tistry, etc., and finally it is now so widely used as money 
that the monetary demand for it is large. On the side of 
supply the conditions are equally favorable to stability of 
value. Because it is precious and at the same time durable, 
the greater part of the total quantity produced, at least in 
modern times, has been preserved and is still available to 
satisfy current needs. In proportion to the total stock (esti- 
mated at $14,000,000,000) the annual addition to the supply 
due to production is insignificant. The supply is thus prac- 
tically constant over short periods and is little affected by 
variations in the annual output of the world's mines. Elas- 
ticity of demand and constancy of supply, the conditions 
favorable to stability of value, are thus presented by gold 
as by no other commodity. This is the final reason for the 
world's preference for it to serve as its standard money. 

§ 180. The choice of the medium of exchange and standard 
of value was a subject which early engaged the attention of 
organized governments. They did not create the monetary 



COIN AND PAPER MONEY 327 

systems that are found to-day, but they gave them a legal The Role 
sanction which has added materially to their efficiency. Laws o^t^^Gov- 
at present control the monetary systems of civilized countries _ ... 
in two vital respects : they declare what forms of money shall ^^le 
be a legal tender, that is, shall be accepted in legal payment Monetary 
of all obligations calling for money, either betvv^een individuals System, 
or between the state itself and its subjects ; and they determine 
the conditions under which these forms of money and other 
media of exchange that serve the convenience of the business 
community shall be manufactured and put into circulation. 

The manufacture of metallic money is called coinage and Coinage 
has become a government monopoly in all advanced countries, ^". . ® 
for the simple reason that this has been found by experience ofp^per 
to be the surest means of maintaining a perfectly reliable Money, 
coinage system. At first coining consisted merely in stamping 
the head of the sovereign and an indication of the weight 
of the coin on one of the faces of a fiat disc of metal. So 
long as this only was done, it was necessary at every transac- 
tion to weigh the pieces of money offered in exchange to make 
sure that they had not been " clipped " since leaving the 
mint. This necessity was obviated by the second step in the 
progress of coinage, which was to stamp the reverse face of 
the disc of metal. A third step consisted in '' milling " the 
edges of the coin and thereby rendering it impossible to trim 
it without detection. At the same time that these improve- 
ments in the process of coinage were made, stringent regula- 
tions were passed forbidding the mutilation of coins, and 
requiring those having in their possession pieces whose weight 
had been reduced below a certain standard to return them 
to the mint, so that they might be remelted and reissued at 
full weight. Withdrawing the character of legal money from 
" light " coins has proved a simple and effective method of 
enforcing this last provision. In addition to coins, most 
modern governments issue one or more kinds of paper money. 
Although devised originally as a means of securing revenue, 
paper money, on account of its convenience, has won for itself 
a permanent place among the media of exchange preferred 
by intelligent business communities. Engraving and printing 
paper notes have thus become as important a function of 



328 MONETARY SYSTEM OF UNITED STATES 



The Three 
Kinds of 
Money: 
Standard. 



Token. 



Credit. 



government as minting coins, and quite as great progress has 
been made in manufacturing notes that are at once durable 
and so cognizable as to defy the ingenuity of counterfeiters. 

In the monetary systems of most modern states three differ- 
ent kinds of money may be distinguished — standard, token 
and credit money. Standard money is that to the value of 
which the values of all other kinds of money in circulation 
are adjusted. It may be made self-regulating by having the 
law declare that a certain weight of the metal selected for 
the standard shall constitute the standard coin and permit 
all persons bringing such metal to the government mints to 
have it converted into coin either gratuitously or on the pay- 
ment of a small fee, called seigniorage. This system is desig- 
nated " free coinage," and has been adopted by all the more 
important commercial nations. Alternative to it is the system 
of " fiat " money, that is, money issued on the authority of 
the government and made to circulate by being declared a 
legal tender. Such money is usually accepted at the outset 
with some misgiving, but after a time people become accus- 
tomed to it, and if the amount issued is controlled so that 
there are no violent changes in the value of the monetary 
unit, it may serve nearly as well for ordinary transactions 
as self-regulating money. 

Token money is money which is issued for use as small 
change in connection with minor transactions. It is usually 
made of a baser metal than the standard and put out in just 
the quantity that suits the convenience of the business com- 
munity. Credit money supplements standard, and is issued 
on the credit of the government. It is redeemable in standard 
coin on demand, and differs from token money only in that 
it is designed to serve as a medium of exchange for large as 
well as small transactions. As business communities learn to 
appreciate the superior convenience of paper money, the field 
for credit money steadily widens. In the United States a 
stage has already been reached where credit and token money 
constitute, with credit substitutes for money such as checks 
and drafts, practically the entire actual medium of exchange 
of the country. 

§ 181. From early times governments have struggled to keep 



GRESHAM'S LAW 329 

different kinds of money in concurrent circulation. The ill Gresham's 
success of such efforts led in the sixteenth century to the ^^^* 
formulation by Sir Thomas Gresham, one of the advisers of 
Queen Elizabeth, of the principle known as " Gresham's 
Law." This is to the effect that when two or more kinds of 
coin circulate concurrently, the kind which is worth more 
as money than as bullion tends to drive out of circulation 
the kinds that are worth more as bullion than as money. In 
other words, cheaper tends to drive dearer money out of 
circulation. This is very like asserting that poor money tends 
to drive out good and calls for careful explanation. 

An illustration will help to make clear the reasons back of Illustrated 
Gresham's Law. In 1792 the Congress of the United States ^"™ 
passed a coinage law adopting the bimetallic system. Both „. 
gold and silver dollars were made full legal tender, and the the United 
Secretary of the Treasury was instructed to coin both metals states, 
freely for all applicants and to put fifteen times as much 
silver into the standard silver dollar as he put of gold into 
the standard gold dollar. This is conveniently expressed by/ 
saying that the law provided for a mint ratio of 15 to 1. 
Some time after this act went into effect the market or com- 
mercial ratio between silver and gold became 15^ to 1. The 
situation then was that our mint coined bullion into money, 
making an ounce of gold equivalent to fifteen ounces of silver, 
while in the world's market an ounce of gold was equivalent 
to 15^ ounces of silver. Since silver coin was made by law 
just as good money as gold wdthin the limits of the United 
States, it was under these circumstances the cheaper medium 
for the payment of debts within the country. Moreover it 
was profitable to export gold coin, exchange it for silver bul- 
lion, import this and have it coined into the overvalued silver 
money. For this reason such gold as was coined was, in 
accordance with Gresham's Law, driven from circulation, and 
the country was brought to the cheaper silver standard. 

The above demonstration of Gresham's Law may seem to Application 

prove too much. If silver drove out gold after 1792, why, tol'resent 

it may be asked, does it not now drive out gold, and why „ °^^ ^^^ 

. b 1 J System, 

does not paper money drive out both gold and silver? The 

reason is not far to seek. Gresham 's Law describes a tendency. 



330 MONETARY SYSTEM OF UNITED STATES 



The 

Adoption 
of the Gold 
Standard 
in Europe. 



After 1792 that tendency was quickened into active life be- 
cause the free coinage of silver opposed no obstacle to the 
substitution of the cheaper for the dearer money, so long as 
any gold remained in circulation. To-day the tendency is 
dormant because the quantity of silver and paper money put 
into circulation is rigidly limited, and is far from sufficient 
to meet the monetary needs of the country. This cheaper 
money, at the time it was first issued, did displace gold; but 
obviously it could not drive out more dollars than it could 
itself replace. The limitation on its supply permits a good 
deal of gold to remain in circulation. Gresham's Law still 
operates, however, as every bullion broker knows, since when- 
ever gold is to be exported, great pains are taken to select 
only full-weight coins for shipment. Legislation which should 
lead to an increase in the volume of silver or paper money 
in circulation, would serve to increase the exportation of gold 
coins, and, if the increase in the cheaper forms of money 
was sufficiently great, it would cause light as well as full- 
weight coins to be withdrawn until no gold was left in cir- 
culation. 

§ 182. In adopting the bimetallic system in 1792 the United 
States simply fell in with the general practice of European 
nations at that period. That system has since been given up 
as the result of the conviction impressed upon one country 
after another that gold and silver cannot be kept in con- 
current circulation at any arbitrarily established mint ratio. 
England was one of the first countries to arrive at this con- 
clusion, and adopted the single gold standard in 1816. On 
the continent the struggle to maintain a double standard 
was continued until the third quarter of the last century. 
Finding it difficult to keep both gold and silver in circulation 
at a parity without the cooperation of other nations, France 
and some of the other states of Southern Europe established 
in 1865 the so-called Latin Union, which had this for one 
of its principal objects. From 1803 to 1873, France and the 
Latin Union succeeded in keeping both gold and silver in 
circulation at their established mint ratio of 1 to 15^. Dur- 
ing the entire period the market ratio between the two metals 
varied so slightly from this mint ratio that an ounce of gold 



THE GOLD STANDARD 331 

was never worth more than 16| ounces of silver (1813) nor 
less than 15.19 ounces (1859). In 1873 several circumstances 
united to compel the Latin Union to abandon the policy which 
it had so long upheld. Chief among these was the increased 
production of silver, due to silver discoveries in America, 
which lowered the value of that metal and caused its sub- 
stitution on a large scale for the countries' dearer gold coin. 
Seeing their gold disappearing from circulation and fearing 
that they would be brought to the cheaper standard, the 
countries of the Latin Union decided in 1874 to limit the 
coinage of silver, and in 1878 to close their mints altogether 
to the free coinage of that metal. By this action they main- 
tained their dearer standard, which was thenceforth gold. 
About the same time (1871-73), Germany adopted the single 
gold standard by limiting the coinage of silver so that the 
silver money in circulation should never exceed ten marks 
per capita. Holland, Norway, Sweden and Denmark were not 
slow to follow the example of their southern neighbors. More 
tardily Austria-Hungary (1892-1902) and Russia (1896), 
which for several years had had depreciated paper currencies 
as their chief media of exchange, accumulated sufficient gold 
to establish securely the gold standard. Thus at the end of the 
nineteenth century all of the important nations of Europe 
except Spain had the gold standard in actual operation. 

Outside of Europe a similar development was in progress itsAdop- 
during the same period. The British dependencies, Canada, tio^ Outside 
Cape Colony and the States of Australasia, have long been of Europe, 
on the gold basis. India suspended the free coinage of silver 
in 1893, and by 1899 had accumulated enough gold in London 
to maintain the silver coin, which continued to be the prin- 
cipal medium of exchange of the country, at a fixed parity 
with the gold coinage of England (15 rupees = £1). Gold 
thus became the country's real standard of value. Japan 
adopted the single gold standard in 1898. At the close of 
the nineteenth century only China and Mexico, among the 
important nations of the world, remained on the silver basis, 
and both of these countries are contemplating measures to 
establish a fixed parity between their silver currencies and 
gold in some such manner as did India in 1899. Gold has 



332 MONETARY SYSTEM OF UNITED STATES 



Monetary- 
History of 
the United 
States. 



thus become the standard of value of practically the entire 
commercial world. 

§ 183. As already explained, the first coinage law of the 
United States gave the country a mint ratio so unfavorable 
to gold that silver became in time its actual standard of value 
and medium of exchange. It was not until 1834 that Con- 
gress attempted to change this situation. In order to bring 
gold back into circulation, acts were passed in that year and 
in 1837 establishing the present mint ratio between gold and 
silver, which is 1 to 15.988.* The standard silver dollar was 
to contain 371.25 grains of pure silver as under the act of 
1792, and the standard gold dollar 23.22 grains of pure gold. 
Both were to be nine-tenths fine. This new ratio undervalued 
silver nearly, if not quite, as much as the former had over- 
valued it, since the commercial ratio between gold and silver 
continued to be about 1 to 15^. In obedience to Gresham's 
Law, silver now disappeared from circulation and gold be- 
came the real standard of value of the country. This situa- 
tion continued down to the time of the Civil War. During 
that struggle United States notes, or " greenbacks," were 
issued in excessive quantity, with the result that gold also 
disappeared from circulation and the country was brought to 
a paper standard. Thus when the war closed, and for some 
years thereafter, neither gold nor silver, except the subsidiary 
coin used for small change, was in circulation. In 1873, after 
considering the subject during successive sessions, Congress 
passed a law omitting the standard silver dollar from the 
list of authorized coins. At the time this action, " the crime 
of 1873," attracted little attention, but a few years later, when 
the question of resuming specie payments was under considera- 
tion and silver producers were suffering from the decline in 
the gold price of their product, there arose a violent agitation 
for the remonetization of silver. In 1878 Congress passed 
what was known as the " Bland- Allison Act," which reintro- 
duced the silver dollar and required the Secretary of the 
Treasury to purchase monthly from $2,000,000 to $4,000,000 
worth of silver bullion and coin it into standard dollars. The 

* The "16 to 1 " which played such an important rSle in the 
presidential campaign of 1896. 



GOLD STANDARD IN UNITED STATES 333 

gold price of silver continued to fall, and this led in 1890 to 
the enactment of a second law, known as the ' ' Sherman Act, ' ' 
which required the Secretary of the Treasury to purchase 
monthly 4,500,000 ounces of fine silver so long as the market 
ratio between silver and gold should be less favorable to silver 
than the mint ratio, and to pay for it by the issue of so-called 
Treasury notes redeemable in coin and possessing full legal- 
tender power. 

As a result of the Bland- Allison and Sherman Acts the The Gold 
government accumulated a vast hoard of silver out of which Standard 
as many as 568,278,020 standard silver dollars will eventually 
be coined. Of these, less than 82,000,000 have ever been in 
circulation at any one time because of the awkwardness of 
the silver dollar as a medium of exchange. The remaining 
dollars have been represented by silver certificates, redeemable 
in silver dollars on demand, and Treasury notes. The result 
of this large increase in the silver currency of the country 
was a proportionate withdrawal of gold from circulation. 
This proceeded so rapidly after the passage of the Sherman 
Act that serious fears were entertained lest the gold standard, 
which had been re-established January 1, 1879, should be dis- 
placed by a cheaper standard. In March, 1893, a special ses- 
sion of Congress was called by President Cleveland for the 
sole purpose of repealing the purchase clause of the Sherman 
Act, which was finally done in October of that year. After 
much further agitation, the logical sequence to this policy 
followed on March 14, 1900, when Congress passed a law 
definitely afiirming that gold is the standard of value of the 
country. 

§ 184. On April 1, 1913, there were in general circulation Present 

in the United States eight different kinds of money. The Monetary 

combined amounts of each kind in circulation and in the ^J^ ,^°^ ° ^ 

the United 
treasury, as shown by the statement of the Secretary of the states. 

Treasury for that date, were in round figures as follows : Gold 
coin and bars, $1,858,600,000; (gold certificates, $1,068,600,- 
000);* standard silver dollars, $565,600,000; (silver certifi- 
cates, $474,800,000) ; * subsidiary coin, $175,000,000 ; Treasury 

* The gold and silver certificates are placed in parentheses because 
they stand for gold and silver included in the first and third items. 



334 MONETARY SYSTEM OF UNITED STATES 



Main- 
tenance of 
Parity of 
Value Be- 
tween Gold 
Coin and 
Gold 
Bullion. 



Between 
Gold and 
Silver Coin. 



notes, $2,700,000 ; United States notes, $346,700,000 ; national 
bank notes, $752,000,000. The total money supply of the 
country was, therefore, $3,700,600,000, of which $360,700,000 
was held on that date in the United States Treasury as assets 
of the government. This represented an estimated circulation 
per capita of $34.46. 

As already stated, it is the monetary policy of the United 
States to maintain an exact parity between the value of its 
gold coin and the value of the gold in such coin and between 
the value of gold money and the seven other varieties of 
money enumerated. The parity in value between standard 
gold coins and the gold of which they are made is maintained 
automatically by the free convertibility of one into the other. 
Thus, if there is any tendency for the dollar to become worth 
more than 23.22 grains of pure gold, the new gold that is 
constantly coming on the market and the old gold that is 
constantly being given new forms will, under the gold coinage 
system, which is gratuitous as well as " free," be coined into 
dollars until the tendency has been checked. On the other 
hand, if there is any tendency for 23.22 grains of gold to be 
worth more as bullion than the dollar into which they are 
coined, gold coins will be used as bullion and thus this tend- 
ency will be checked. By these simple means the gold stand- 
ard is maintained so far as the relation between gold coin and 
gold bullion is concerned. 

§ 185. The maintenance of the parity in value between gold 
coin and the other varieties of money is a more complicated 
matter. Gold certificates are kept at par by the fact that 
they are redeemable at the pleasure of the holder in the gold 
coin in exchange for which they are issued, and which is held 
in the Treasury as a trust fund. Standard silver dollars, 
which, like gold coin, possess full legal-tender power, and 
the silver certificates based on them, are kept at a parity 
with gold because they, too, are freely exchangeable at the 
United States Treasury for gold or any other form of money 
that is desired. There is no law expressly requiring their 
redemption in gold, but laws have over and over again affirmed 
it to be the settled policy of the United States to maintain a 
parity between its gold and silver coins, and prompt redemp- 



THE GOLD RESERVE 335 

tion of one in the other has long been recognized as the only 
sure way of maintaining such parit3^ The ability of the 
Secretary of the Treasury to pay out gold in exchange for 
silver depends, of course, upon a limitation on the amount 
of silver that is put into circulation. As the law now stands, 
no more new silver dollars may be coined than will suffice 
to redeem the $2,700,000 in Treasury notes still outstanding, 
and there is no doubt that the 568,300,000 odd silver dollars 
that are thus authorized, circulating for the most part in the 
form of silver certificates, will be continuously needed for 
the country's retail trade. So long as this limitation is ad- 
hered to, the redemption of silver dollars and silver certificates 
is not likely to cause the government any embarrassment. 
Minor coins are kept at a parity with gold because they also 
are redeemable in standard coin, and because there is a con- 
stant demand for the limited quantity of such coins issued. 

The United States notes and the Treasury notes of 1890, Between 
although so different in their origin, are now on the same Gold Coin 

footing so far as their monetary use is concerned. Both are ^" ^^^^ 

KLoncy. 
a legal tender and both are now redeemable in gold. The 

United States notes, or greenbacks, which were issued in 
excess during the Civil War, were restored to a parity with 
gold by the resumption of specie payments, January 1, 1879. 
The amount of this currency, which was at one time nearly 
$450,000,000, had been reduced to $346,681,016 by May 31, 
1878, when an act, which is still in force, requiring this quan- 
tity to be kept in circulation, became effective. 

After 1890, when the excessive issue of silver currency 
threatened to deplete the country of its gold, the United States 
notes were the convenient means used by bankers to secure 
that metal from the Treasury. As, at the same period, the 
government's revenues were insufficient to meet its current 
requirements, the Secretary of the Treasury was compelled to 
pay out the notes almost as fast as they were redeemed, and 
this permitted their repeated use for the same purpose. The 
act of March 14, 1900, was designed to prevent the recurrence 
of a similar situation. It provides for a special gold reserve The Odd 
of $150,000,000 to be set aside by the Secretary of the Treasury Reserve, 
for the exclusive purpose of redeeming on demand United 



336 MONETARY SYSTEM OF UNITED STATES 



The 

National 
Bank 
Notes. 

Stability 
of the Gold 
Standard. 



Defects in 

Monetary 
System of 
the United 
States. 



The 

Function 
of Token 
Money. 



States notes and Treasury notes. The redeemed notes are to 
be used only to maintain the gold reserve either through ex- 
change for free gold already in the Treasury or through the 
purchase of gold bullion " at such rates and upon such terms 
as may be deemed most advantageous to the public interest." 
The law provides further that when the gold reserve falls 
below $100,000,000 the Secretary of the Treasury shall restore 
it to $150,000,000 by borrowing money at 3 per cent or less 
on the credit of the United States. The redemption of these 
two forms of money in gold is thus assured so long as the 
credit of the United States is not itself impaired. 

The national bank notes, the last variety of money to be 
considered, are kept at a parity with gold by being made re- 
deemable in legal money both at the Treasury and over the 
counter of the issuing bank. 

As a result of these various expedients, all of which reduce 
to the ready convertibility of the token or credit money con- 
cerned into gold coin, all kinds of money in circulation in 
the United States are kept at a parity. So long as the issue 
of token and credit money is restricted within its present limits 
there seems little ground for anxiety in regard to the main- 
tenance of the present gold standard. 

§ 186. The monetary system of the United States, not- 
withstanding the legislative tinkering to which it has been 
so frequently subjected since the Civil War, remains im- 
perfect in three important respects. First, there has been 
an excessive coinage of silver dollars and the position of the 
silver certificates, issued in place of them, as credit money 
redeemable in gold, is not defined with sufficient precision 
in the law. Second, the conditions under which national bank 
notes are issued fail to provide the country with a satisfactory 
bank note currency. Third, the gold standard itself falls 
short of the requirements of an ideal monetary system. We 
will consider immediately possible remedies for the first of 
these defects. The others are more complicated and constitute 
the principal themes of the next two chapters. 

Of the eight kinds of money of the United States, gold 
coins alone are standard money. Minor coins and silver 
dollars are token money. The five varieties of paper dol- 



TOKEN MONEY 337 

lars are credit money. The function of standard money 
in a monetary system has already been indicated. Token 
money performs a supplementary function that is readily 
understood. Owing to their small size in proportion to their 
value gold coins are not suitable for small change. Even 
gold dollars were found unsatisfactory in the United States 
and their coinage was suspended in 1890, since which time 
the quarter eagle ($2.50) has been the smallest gold coin 
even nominally in circulation. It is the function of token 
money to supply convenient coins of the small denominations 
needed in retail trade. The experience of each country must 
determine what token coins best suit the convenience of its 
business public, but there are certain principles that may be 
laid down which are of general application: (1) The issue 
of token money should be limited to the actual requirements 
of retail trade, and to insure this result and the maintenance 
of the parity between token and standard money, the law 
should provide for the ready convertibility of one into the 
other. (2) Since the value of token money depends upon the 
demand for it and upon its ready convertibility, the value 
of the bullion contents of such money is of slight importance 
in comparison with its being readily cognizable and convenient 
in size and weight. In fact, the only good reason for keeping 
the face value of token coins from exceeding the value of the 
bullion they contain, plus the expense of their manufacture, 
by too large a margin, is that this is the easiest way to prevent 
counterfeiting. A serious objection to the silver dollars of the 
United States, regarded as token money, is that their bullion 
is now so much less than their coin value that a handsome 
profit might be made by manufacturing silver dollars of 
standard weight and fineness and in every respect as good as 
those manufactured by the government. This offers entirely 
too attractive a field for the ingenuity and daring of counter- 
feiters. (3) On the other hand, the margin between the bul- 
lion and coin value of token coins should be wide enough to 
allow for considerable variations in the bullion value. Only 
in this way is it possible to avoid the danger that such coins 
may come to be worth more as bullion than as money and be 
withdrawn from circulation. 



S38 MONETARY SYSTEM OF UNITED STATES 

Are Half- The token-money system of the United States, except as 

cent Pieces regards the excessive coinage of silver dollars, conforms fairly 

Needed « . . , 

well to the above principles. The minor silver coins issued 

are the half-dollar, the quarter and the dime. These are a 
legal tender in payments of ten dollars or less and, as already 
explained, are redeemable in standard money at the pleasure 
of the holder. The other coins issued are the nickel five-cent 
piece and the copper cent, which are a legal tender in pay- 
ments of twenty-five cents or less, and likewise redeemable 
in amounts of twenty dollars or multiples thereof. The most 
striking difference between this system and the systems of 
European countries is the relatively high value of the coin 
of lowest denomination which it includes. The smallest coin 
of Great Britain is the farthing (^ cent), of Germany, the 
pfennig (^ cent) and of France, the centime (\ cent). 
The rising cost of living in recent years has called attention 
to this diff'erence as a defect in the American system. It is 
urged that the addition of the half-cent to the present coins 
would enable persons with small incomes to be more economical 
in their expenditures and on this ground it is quite probable 
that Congress will authorize such a change in the near future. 
The Useless § 187. Much more serious than the lack of half-cent pieces 
is the coinage of silver dollars far in excess of the country's 
present or prospective needs. On April 1, 1913, there were 
in circulation only 72,286,177 silver dollars. It is highly prob- 
able that the preference for paper dollars which has caused 
silver dollars practically to disappear from circulation in 
the Eastern States will gradually spread to other parts of the 
country. Fully 500,000,000 of the 568,278,020 silver dollars, to 
the coinage of which the country is committed by law, will 
soon be serving no useful purpose whatever. Stored in the 
vaults of the Treasury at Washington these superfluous silver 
dollars not only represent so much dead capital but are an 
actual source of expense, as they must be laboriously counted 
along with the other assets of the government with every 
change in administration. 

Nominally, of course, these silver dollars are the security 
back of the silver certificates which circulate in their stead 
but really they contribute nothing to the acceptability of 



Silver 
Hoard 



THE SURPLUS SILVER DOLLARS 339 

these certificates. It is confidence that the government will 
redeem them in gold and the need there is for small bills to 
carry on the' country's trade, not the prospect of getting in 
exchange for them silver dollars, which no one wants, that 
maintain these certificates at par with other kinds of money. 

Two plans have been suggested for disposing of these sur- Objections 
plus silver dollars. The simplest is to withdraw and cancel *° ^^^® °^ 
the silver certificates that find their way into the Treasury 
at the rate of a few millions a month and convert an equal Bullion, 
volume of silver dollars into bullion to be disposed of at 
the discretion of the Secretary of the Treasury. The chief 
objection to this plan is the large loss in the nominal assets of 
the government which it would entail, since not much more 
than forty cents could be recovered from the sale of the silver 
for every dollar in silver certificates destroyed. 

The second plan proposes to avoid this loss by substituting Remedy 
for the canceled silver certificates United States notes and Advocated, 
at the same time adding the proceeds derived from the sale 
of the silver bullion to the legal gold reserve. If the sale of 
the 500,000,000 silver dollars as bullion brought in $200,000,- 
000 in gold this would increase the gold reserve to $350,000,- 
000, at the same time that the credit money secured by this 
reserve was increased to some $847,000,000. The new reserve 
would thus be considerably in excess of one-third of the new 
liability, and as the greater part of this liability would be in 
the form of small bills which are continuously needed in 
connection with the retail trade of the country, there seems 
every reason to believe that it would be as adequate as is the 
present reserve against the present liability. 

Objectors to this plan are chiefly those who distrust every 
form of credit money except gold certificates protected by a 
dollar for dollar gold reserve. But such extreme distrust rests 
rather upon sentiment than upon reason. Credit money has 
as legitimate a place in a monetary system as has token money, 
but its issue must be regulated with greater caution since its 
use is not confined to small change transactions and there is 
no simple way of telling when a country has all that it can 
safely use. Its function is, of course, to economize the use of 
standard money by serving as a convenient substitute for it. 



340 MONETARY SYSTEM OF UNITED STATES 

The business community in the United States has a decided 
preference for paper notes over coin. It prefers gold cer- 
tificates to the actual gold, and it will accept United States 
notes as readily as gold certificates provided it is assured that 
they will be redeemed in gold on demand. Under these cir- 
cumstances there seems to be no good reason why the govern- 
ment should not continue United States notes in circulation 
in moderate amount, provided it maintains an adequate gold 
reserve to insure their redemption and machinery for increas- 
ing this reserve promptly should some extraordinary emer- 
gency render this necessary. The system was subjected to 
a severe test in the autumn of 1907 when there was an almost 
complete collapse of commercial and bank credit. That there 
was no unusual demand on the government's gold reserve 
at that time is conclusive proof that the issue of credit money 
in the volume now outstanding has not weakened the soundness 
of the country's monetary system. In the opinion of the 
author, increasing the issue of credit money by substituting 
United States notes for silver certificates, as proposed above, 
while at the same time increasing the gold reserve by adding 
to it the proceeds derived from the sale of the surplus silver 
dollars, would really tend to strengthen the monetary system 
by making it simpler and more rational. It is the remedy for 
this defect which seems to meet most fully the different re- 
quirements of the situation. 

REFERENCES FOR COLLATERAL READING 

* Johnson, Money and Currency; *White, Money and Banking; Scott, 
Money and Banking (good bibliography); Kinley, Money and Credit; 
LaughUn, The Principles of Money. More condensed discussions will 
be found in: *Taussig, Principles of Economics, Chaps. XVII.-XIX., and 
*Pierson, Principles of Economics, Part II. Treating more especially 
of the monetary history of the United States are: Laughlin, The History 
of Bimetallism" in the United States; *Dewey, The Financial History of 
the United States; Dunbar, Laws of the United States Relating to 
Currency, Finance, and Banking, 1789 to 1891; Report of the In- 
dianapolis Monetary Commission (1898), and *Noyes, Forty Years of 
American Finance. 



CHAPTER XX 
CREDIT AND BANKING 

§ 188. Credit, or a promise to pay at a future time for a The Nature 
valuable consideration received in the present, is probably °^ Credit, 
as old as the practice of exchange. The only condition essen- 
tial to its use is confidence on the part of the creditor that 
the promised payment will be made when due, and this must 
have been among the earliest fruits of social intercourse. 
With every increase in the mutual confidence which binds to- 
gether the members of business communities a larger field has 
been opened to credit, until at the present time there is hardly 
a business man who does not figure daily either as a creditor 
or a debtor in some credit transaction. 

With the introduction of money as the medium of exchange, 
the custom arose of using the monetary unit as the medium of 
credit, or of deferred payments. This is now so universal 
that little or no exaggeration is involved in defining credit as 
" a promise to pay money." The written forms in which 
promises to pay money are drawn up are conveniently desig- 
nated as " credit instruments " or " credit paper." 

Like most of the terms of economics, " credit " is used in 
other senses than that chosen for definition. Business men 
talk habitually of " having credit " and of " giving credit." 
To have credit is to enjoy a reputation for integrity M^hich 
inspires confidence or to possess property that may be 
pledged. To give credit, on the other hand, is to accept 
another 's promise to pay in exchange for a valuable considera- 
tion. It is obvious that business men will ' ' give credit ' ' only 
to those who '' have " it and that both are necessary to the 
existence of negotiable credit instruments. 

§ 189. Of all forms of credit the simplest is verbal or Book 
book credit, resorted to whenever a purchaser has things Credit. 
" charged." Its use has many advantages. In agricultural 

341 



342 CREDIT AND BANKING 

communities in which incomes are received only at annual in- 
tervals when the crops are ready for sale, book credit at the 
country store enables the farmer to secure supplies for himself 
and his family during the periods between harvests. In a sim- 
ilar way, in factory towns and cities where wages are paid by 
the month, book credit is indispensable to the maintenance of 
many workingmen's families during the intervals between 
pay days. More important, because more clearly beneficial, 
is the use of book credit in connection with large retail stores, 
where it obviates the necessity for small payments. The ex- 
tent to which book credit serves as a medium of exchange in 
the United States can only be guessed at, but it is believed 
that it figures in connection with fullj^ one-half of the whole- 
sale and retail transactions that take place. 

In agricultural districts it is not unusual for the merchants 
who sell on credit to be themselves purchasers of their cus- 
tomers' products. Where this is the case debts contracted 
during the year may be canceled by credits secured when the 
crops are sold and book credit may serve as the sole medium 
of, exchange. More commonly the use of book credit simply 
defers payment until settlement day, when some other medium 
of exchange is called in to balance the account. Generally 
this other medium is some form of credit created by a bank, 
such as a check or a draft. 
Description § 190. A bank is an institution which deals in money and 

of Banking gj.g(jj^ ^ receives deposits ; pays them out again on the 
Susincss 

written order, or " check," of the depositor; sells " drafts " 

or orders for money on its correspondents in other places; 
lends at interest money, deposit credits or its own " bank 
notes "; " discounts " notes and bills of exchange ; sells " for- 
eign exchange " or drafts on its correspondents iabroad, and 
sometimes provides safety-deposit boxes for the storage of 
valuable papers. In addition to commercial banks, like the 
national banks in the United States, to which the above de- 
scription applies, there are other banking institutions which 
perform only a limited number of these functions and com- 
bine with them others that do not fall strictly within 
the field of banking. Such are savings banks and trust com- 
panies. 



THE CHECK SYSTEM 343 

Historically, lending is an older banking function than bor- The Bank 
rowing. Thus the Bank of England was incorporated in 1693 of England, 
primarily for the purpose of lending to the government 
£2,000,000 at 8 per cent interest. The capital necessary to 
carry through this operation was subscribed by merchants of 
London, who soon fell into the habit of intrusting their sur- 
plus funds to the bank and of borrowing from it themselves 
when occasion required. As the deposits of a commercial 
bank must be repaid on demand, the practice of lending the 
deposits as well as the capital of a bank was at first looked 
upon as a dangerous innovation. Experience has shown, how- 
ever, that although all depositors have the right to withdraw 
their deposits on any given day, in practice only a small 
portion of them will do so. By lending money for short 
periods and arranging loans so that a certain proportion of 
them become due each week, a modern bank is able to lend 
at interest from two-thirds to three-fourths of its deposits 
without running any serious risk of becoming bankrupt. Of 
course, to continue this policy, it is necessary for a bank to 
command the confidence of its depositors. If they are sus- 
picious or timid, some slight circumstance may start a " run 
on the bank," which may prove fatal, since no bank can do 
a profitable business and at the same time be in a position to 
repay at any time all of its depositors. Banking thus depends 
for its success more than any other business upon the con- 
fidence which customers have in those directing the enterprise. 
It is this confidence that attracts deposits. The same confi- 
dence holds them after they have been made and enables the 
bank to turn them to profitable account. The confidence of 
other banks, finally, may preserve a bank subjected to a run 
from becoming insolvent. For these reasons bankers should 
be men of tried business experience, whose integrity is above 
suspicion. 

§ 191. One reason why a bank may count with confidence The Check 
on retaining control over the major portion of its deposits System, 
from day to day, is because the check is such a convenient 
means of payment that it tends to become the principal me- 
dium of exchange in communities in which banking has been 
developed. If all of the inhabitants of a town had deposits 



344 CREDIT AND BANKING 

in the same bank, it will readily be perceived that payments 
among them might be made exclusively by means of checks 
and that such payments need involve the actual withdrawal 
of no money from the bank. The butcher, the grocer, the 
dry-goods merchant, the lawyer, the physician, etc., might 
exchange checks at the end of each week or month, and these 
transfers could be noted on the books of the bank. No money 
would be required, because under the assumed conditions 
checks would accomplish all of the exchange work to be done. 
Only when payments were made to persons who were not 
depositors in the bank would the bank 's deposits be encroached 
upon. No community has yet developed to a point where 
checks are used for all of its transactions. In fact, for small 
payments, the convenience of using checks is more than coun- 
terbalanced by the trouble of making them out and the ex- 
pense connected with transferring small amounts from one 
account to another. Moreover, as a community grows, com- 
peting banks are likely to start up, and this gives rise to checks 
drawn on different banks and prevents that easy transfer 
of accounts possible when one bank monopolizes the business. 
To reduce to a minimum the transfers of money necessitated 
by the existence of different banks in the same locality, the 
banks themselves have devised what is known as the ' ' clearing 
house." Where no clearing house exists, each bank which 
receives checks drawn on other banks is under the necessity 
of sending such checks by special messenger to the banks 
against which they are drawn and demanding payment for 
them. A clearing house is an institution where such mes- 
sengers from different banks may come together daily and 
exchange checks, receiving in payment only the balance due 
to each bank from all of the others belonging to the clearing 
house. By this means checks aggregating millions of dollars 
may be exchanged through the transfer of only 5 or 6 per 
cent of the amount in money. Even this transfer involves 
no actual reduction in the amount of money on deposit, since 
some banks gain what others lose. Thus, with a well-organized 
clearing house, the affiliated banks in a city in which checks 
are the preferred means of payment may count with certainty 
on retaining control over the greater part of their deposits, 



BANK DEPOSITS 345 

so long as they continue to command the confidence of their 
depositors. 

In the United States the use of checks for paying debts in Checks and 
distant cities is becoming ahnost as general as for paying Drafts. 
debts at home. To facilitate this process each bank has its 
correspondent in each of the large cities of the country, to 
which it sends checks drawn on banks in those cities which it 
has received on deposit or cashed for its customers. These 
checks are sent to the clearing house like any others by the 
bank receiving them, and, if good, are credited to the account 
of the bank making the remittance. The process is made still 
simpler by the use of drafts drawn by the customer's bank 
against its correspondent in the city to which remittance is 
made and given in exchange for checks against the customer's 
deposit. The obvious advantage of drafts for distant pay- 
ments is that they do not need to be returned to the place 
where they originate before they are paid and canceled. 

The use of checks, drafts and post-office, express and tele- Money and 
graph money orders as media of exchange confines the use of Credit, 
money in progressive communities within very narrow limits. 
Well-to-do people in cities in the United States already use 
money only for small-change transactions and for traveling 
expenses. As the country becomes more densely inhabited and 
credit institutions are perfected, it hardly admits of question 
that this custom will become more general and that credit will 
serve as the medium for an ever larger proportion of exchange 
transactions. This does not mean that the monetary unit will 
lose its importance as the standard of value, since all credit 
instruments are expressed in terms of money. In fact, since 
credit is based on confidence, the wider the extension of credit, 
the more vitally important will the soundness and stability of 
the monetary system become. 

§ 192. Lending, which was the first, is still, from the point importance 
of view of the banker, the most important function of a bank. °^ Deposits 
He is willing to accept deposits and to maintain the clerical 
force necessary to the efficient operation of the check system, 
because in this way he adds to his loanable resources. It is 
through lending these resources at interest that he derives the 
greater part of his profit. Lending deposits is so remunerative 



346 



CREDIT AND BANKING 



rorms of 

Bank 

Loans. 



Collateral 
Loans. 



that banks, especially in cities, are active competitors for de- 
positors. The inducements they offer range from ready accom- 
modation with loans, which appeals especially to active enter- 
prisers, to the payment of a small rate of interest even on 
call deposits. Some city banks even go so far as to send their 
own messengers to collect deposits and to cash checks for their 
customers, so that they may be spared the trouble of visiting 
the bank. One reason for this active competition is the belief 
that deposits themselves attract and hold deposits. Confidence 
is contagious, and when a business man observes that others 
are intrusting millions of dollars to a particular bank he is 
the more ready to intrust to it his own surplus funds. 

A bank's loans may assume a variety of forms depending 
upon the kind of security accepted and the conditions as to 
interest. The simplest sort of a loan is on the personal note 
of the borrower, secured only by his individual name. Such 
notes are known as " single-name paper " and are entirely 
acceptable to bankers when the credit of the giver of the note 
is above question. A more common kind of loan is on the 
personal note of the borrower indorsed by some friend or 
business associate, who, by writing his name on the note, makes 
himself also liable for the payment of the obligation. " Two- 
name paper " is, for obvious reasons, more acceptable than 
single-name notes. Indorsements on notes may be multiplied 
indefinitely, and each new name may add something to the 
value of the security. 

Even more acceptable to bankers than personal notes are 
notes secured by a pledge of stocks or bonds, called in this 
connection " collateral." If such notes are not paid when 
they fall due the banker is at liberty to sell the securities 
pledged and reimburse himself for principal and interest from 
the proceeds. To lend intelligently on collateral security the 
banker must be well informed as to the values of stocks and 
bonds, and it is for this reason that he is compelled to follow 
closely the variations of the stock market. In addition to lend- 
ing on paper created for the purpose of the loan, banks lend 
by discounting notes and bills of exchange created in connec- 
tion with ordinary mercantile transactions. A bill of ex- 
change is an order drawn by one person directing another to 



CALL AND TIME LOANS S47 

pay a certain sum of money on a certain date to a third person 
named in the bill. Such bills, or drafts (a name also applied 
to them), are the constant recourse of merchants who sell on 
credit. When drawn by a merchant who enjoys the confidence 
of his bank they are readily discounted by it, that is, purchased 
at their face value less interest on the principal at the current 
rate to the time when they fall due. In such a transaction 
a bank virtually lends its customer the face value of the note 
less the discount, which is in this case the interest, relying 
upon him to reimburse it if the person against whom the bill 
is drawn fails to pay. To avoid misunderstanding, banks 
which discount bills of exchange usually lose no time in having 
them brought to the attention of the persons against whom 
they are drawn for their " acceptance." An accepted bill 
resembles an indorsed note in that two persons are legally re- 
sponsible for its payment. 

Besides differing in their form, bank loans differ as to the Call and 
conditions of payment. In this connection " call " or demand ^^"^^ 
loans, short-time loans and long-time loans must be distin- °^"^' 
guished. Call loans are payable at any time at the will of 
either lender or borrower. They are based usually on col- 
lateral security, and the borrower who fails to respond 
promptly to a bank's request for payment runs the risk of 
being " sold out," that is, of having the security sold to re- 
imburse the bank. As such forced sales are not likely to be 
advantageous, borrowers on call have every inducement to 
meet their obligations promptly. Short-time loans are loans 
which " mature," or fall due, within thirty, sixty or ninety 
days. Next to call loans, these are preferred by a commercial 
bank, which likes to have its resources as completely under 
control at any given time as possible. Long-time loans are 
loans that run for six months or more and are made more 
frequently by savings banks, trust companies and private 
bankers whose obligations to depositors do not usually call 
for repayment on demand. The prudent banker makes the 
combination of these various kinds of loans that will secure 
for his bank the largest average rate of return without so 
tying up its funds that they cannot be quickly converted into 
cash to meet an emergency. 



348 



CREDIT AND BANKING 



Banks Lend 

Their 

Credit. 



By Means 
of Deposit 
Accounts. 



§193. From what has been said thus far, it might be in- 
ferred that a bank's credit figures only on the deposit side 
of its business. It is credit that attracts depositors, and the 
bank's own capital and the deposits intrusted to it appear 
to the uninitiated to be the resources which limit its lending 
capacity. As a matter of fact, modern banks take advantage 
of the business community's preference for checks as a means 
of payment to lend deposit credits as well as money. The 
present-day borrower from a city bank desires, in nine cases 
out of ten, not money, but a deposit credit on the books of the 
bank against which he may draw checks at his convenience. 
Even if he wishes to pay at once to another the whole amount 
borrowed, he will usually prefer to draw a check for it rather 
than to pay it in money. From this it follows that the deposit 
liabilities of a modern city bank represent quite as largely 
sums loaned by it to business men as sums intrusted to it by 
such men. A bank lends its credit quite as freely as it utilizes 
that credit in inducing others to lend to it. 

The same considerations which cause hona fide deposits to 
be left under the control of the bank, so long as it retains 
the confidence of its customers, causes loaned deposits to be 
left with it also. The man who borrows from a bank wants 
ordinarily purchasing power to use in some business transac- 
tion. This purchasing power may pass to some one else, but 
under present conditions the new owner is almost certain to 
intrust it, at least temporarily, to a bank for safe-keeping. 
Presently his business dealings may cause him to transfer it, 
or part of it, to a third person, but again the chances are all 
in favor of its being left on deposit with a bank rather than 
being withdrawn as money. Before the purchasing power 
loaned by the bank has left its control, or the control of 
affiliated banks, it is more than likely, in the ordinary course 
of business, that the loan will mature and equivalent purchas- 
ing power will be returned to the bank. In this fashion a bank 
is able to receive interest for assuming demand liabilities 
which it may not, as a matter of fact, ever be called upon to 
discharge. It must always be ready to discharge them on 
pain of bankruptcy, but it may count with confidence on being 
called upon to discharge only a portion of them from day to 



BANK NOTES 349 

day. This ability of a bank to make a profit by lending that 
intangible thing called credit is what makes successful bank- 
ing so profitable and at the same time exposes bankers to 
such serious temptations. Banking experience in a given 
locality may suggest that a cash reserve of at least 30 per cent 
of the deposit liabilities ought to be kept on hand in order to 
satisfy at any time a bank's depositors. If this amount is 
held, a loan business, in the form of deposit liabilities, of 
$1,000,000 may be maintained by means of a reserve of 
$300,000. The same $300,000 would maintain a loan business 
of $1,200,000 if 25 per cent were an adequate reserve. The 
interest on the additional $200,000 is the temptation which 
is constantly presented to the banker to depart from the 
lessons of banking experience and maintain a somewhat smaller 
reserve than is entirely safe. A reserve of 25 per cent, 20 
per cent or even 10 per cent, might be adequate under ordi- 
nary business conditions. But the reserve must be sufficient 
to meet not only ordinary demands, but any demands that 
are likely to arise. It is because bankers are apt in times of 
business prosperity to forget the lessons of the past that the 
banking business has appeared a fit object for state super- 
vision and regulation. 

Besides lending their credit in the form of deposit liabili- Or Bank 
ties, banks which enjoy the privilege of issuing bank notes, Notes, 
that is, the bank's promises to pay on demand without interest 
the sums named on the face of the notes, may lend their 
credit in this form. When the credit of a bank is securely 
established, its promises to pay may be considered " as good 
as gold." Under such circumstances borrowers from the 
bank will be as willing to accept bank notes as legal money 
in case they wish some other means of payment than their 
own checks. In cities, where checks can be presented to the 
bank against which they are drawn within a few hours and 
their value established, most business men prefer them to 
bank notes. In country districts, however, checks are not 
acceptable because of the risk involved in trusting the drawer 
of a check until it can be presented at the distant bank 
against which it is drawn. If confidence is felt in the bank, 
no such objection will be raised to bank notes, since they carry 



350 



CREDIT AND BANKING 



Control 

over 

Capital. 



on their face the liability of the bank. It follows that country 
banks enjoying the privilege may loan their credit through 
the issue of bank notes, when otherwise loans would have to 
be made in cash and credit could enter into their business 
only as a means of attracting depositors. 

Interest on g 194 ij^ g, previous chapter interest was described as the 
an oans gj^^^g ^f wealth assigned to capitalists for the use of their 

Paid for . , , . /» • 1 t i i 1 

capital, or as the earnings 01 capital. Interest on bank loans 

does not at first thought appear to fall under this definition. 

Are the money and credit which banks lend capital? If not, 

what service do these render to induce borrowers to pay 

interest for their use? Satisfactory answers must be given 

to these questions to justify our definition of interest. 

Those who borrow from banks wish, usually, purchasing 
power to enable them to obtain — or, at times, to retain — 
control over a share of the community's capital. What they 
really borrow is not the money or the deposit credit which 
the bank transfers to them, but the concrete forms of capital, 
economic goods of various kinds, or stocks and bonds which 
represent part ownership in aggregates of economic goods, 
which they purchase with this money or deposit credit. The 
purchasing power which the bank supplies is simply the con- 
venient medium by means of which control over capital is 
secured, and interest is paid for its use, ordinarily, simply 
because the capital which it represents earns interest. It is 
a derived form of interest accounted for by the interchangea- 
bility of purchasing power and capital goods. 

For a community which uses as its medium of exchange 
only self-regulating standard money, for example, gold coin, 
the answers to the questions propounded above may be given 
w^ithout hesitation. Such gold coin is itself capital, that is, 
the product of past industry used as an aid (as the "' tool of 
exchange ") to further production. Only so much wealth 
will be thrown into this form as can earn the same rate of 
return that is obtained by other kinds of capital goods, and 
this return will be secured because, as the universal medium 
of exchange, money represents all other goods. It is the 
transition form in which the gross returns of industry are 
received by the community's enterprisers and is quickly con- 



Gold Coin 
Is Capital 



CREDIT AND STANDARD MONEY 351 

verted by them and by those to whom they make payments 
into concrete capital and consumable goods. It thus confers 
upon its possessor command over whatever combination of 
goods he may require. The business man's willingness to pay 
interest for its use proportionate to the time of such use follows 
necessarily from the command over interest-earning capital 
goods which it bestows. 

But no community uses standard money only as its medium Credit Is 
of exchange. The credit of the government is called in to Capital 
give currency to token and credit money. Where banking is ^ , . 
developed, bank credit also serves on a vast scale as a medium standard 
of exchange. Can this credit which so largely takes the Money, 
place of standard money in modern business communities 
be properly included under the definition of capital 1 If not, 
what service does it render which entitles those who furnish 
it to interest for its use? It must be clearly asserted at the 
outset that credit is not capital. It may enable the person 
who enjoys it to secure capital. It may even, to the extent 
that it serves equally well as the medium of exchange, take 
the place of capital in the form of standard money. But 
it is not itself capital. Nevertheless, interest is paid for its 
use for exactly the same reasons that it is paid for the use 
of standard money. What the business man wants when he 
borrows from a bank is purchasing power. If the bank can 
supply this in the form of a deposit credit, against which 
he may confidently check at will, or in the form of bank 
notes " as good as gold," he is as well, even better, pleased 
than if it supplied it in the form of gold itself. What he 
really wishes is the goods to be bought with the purchasing 
power loaned him. It is for these that he is willing to pay 
interest. It is even these that are really loaned to him, since 
the bank transfers to him a part of its own control over the 
collective wealth of the community. The purchasing power 
which figures in the transaction soon passes on to some one 
else and continues to circulate, changing hands perhaps hun- 
dreds of times before the loan falls due and equivalent pur- 
chasing power must be returned to the bank by the bor- 
rower. A demand for bank loans is thus at bottom not a 
demand for money or for credit, but a demand for a part 



352 CREDIT AND BANKING 

of the community 's capital. Money or other purchasing power 
is transiently needed to put the borrower in control of the 
capital he wishes, but its task is quickly done, while the 
capital remains in the borrower's possession. His demand 
for it is due, not to his position as a borrower, but to his 
position as a prospective buyer, and the aggregate demand 
for money is no greater in a community in which all pur- 
chases are made with borrowed money than it is in a com- 
munity where the same volume of purchases is made with 
money owned by the purchasers themselves. 
Limitations § 195. Conceding the accuracy of the above analysis, the 
on Use of reader may be inclined to ask why bank credit, the cheaper 
medium of exchange, does not, in obedience to Gresham's 
Law, entirely supersede standard money. This is because 
there are very definite limits to the use that may be made 
of it. In the first place, it must never be forgotten that bank 
credit is efficient as a medium of exchange only so long as it 
is convertible at will into legal money. Bankers must be 
constantly on their guard against unduly multiplying their 
deposit or note liabilities, and the public must be constantly 
on its guard against trusting bankers who are not safe, con- 
servative men. These two considerations tend to confine the 
banking business to men who may be trusted not to be carried 
away by the possibilities of gain aiforded by their position, 
and to cause such men to regulate their use of credit by 
reference to the reserve of legal money which they are able 
to maintain as a guarantee that all obligations will be in- 
stantly discharged. A second point to remember is that the 
nature of bank credit limits its use to borrowers whose need 
of purchasing power is only temporary. A commercial bank 
cannot lend on long-time paper to any considerable extent 
without losing that quick control over its assets that is in- 
dispensable to its solvency, since nearly all of its liabilities 
must be discharged on demand. Its loans must be on call 
or short-time paper, and this confines its services to business 
men whose transactions are of such a nature that they can 
count confidently on ability to repay, after a brief interval, 
what they have borrowed. 

Within the limits determined by the nature of their busi- 



SHORT-TIME LOANS 353 

ness, commercial banks compete actively to lend their credit 
at interest. Where banking is well organized this insures 
to those business men who can avail themselves of call and 
short-time loans accommodation at rates of interest as low as, 
and at times even lower than, that paid by the safest long- 
time investments. The lowest rate normally is that paid for 
call loans. Only men who are engaged in operations on the 
stock exchange, which they believe they can conclude without 
loss on short notice, venture, usually, to make themselves liable 
for loans of this character. In contrast with the limited 
demand for such accommodation on the side of borrowers, 
there is an almost indefinitely large supply of funds to be 
loaned at call on the side of lenders. Other things being 
equal, call loans are those dearest to the banker's heart. They 
enable him virtually to " have his cake and eat it too," to 
retain control over his assets at the same time that these 
are earning interest. These two circumstances explain why 
the call rate is sometimes as low as one-half of one per cent 
and usually lower than the rate on the safest bond invest- 
ments. The call rate is also the rate subject to the most 
violent fluctuations. Those who borrow on call do so nearly 
always to buy stocks or bonds. If their calculations mis- 
carry, they may be asked to repay at the very time when 
it is most awkward to do so. Rather than sell, on a depressed 
market, the securities they have purchased, borrowers are 
often willing to pay extravagant rates of interest for a few 
days in the hope that the prices of these securities will rally. 
It is thus not uncommon for the call rate to rise to 50, 75 or 
even 100 per cent for a few hours or days when a decline 
in stocks is in progress or banks are calling in their loans 
to be ready for emergencies. 

Loans on short time, which are less attractive to lenders, Short-time 
are, on the whole, more attractive to borrowers, but, as before, Loans, 
those who wish the use of purchasing power for thirty, sixty 
or ninety days only, are a limited class. The normal relation 
between supply and demand fixes the rate of interest on 
short-time loans comfortably above the call rate and even 
somewhat above the rate on such permanent investments as 
safe railroad bonds or real estate mortgages. The rate on 



354 



CREDIT AND BANKING 



Competition 
Tends to 
Adjust the 
Bank Rate 
of Interest 
to the 
General 
Hate. 



Should 
Banking 
Be 
Eegulated? 



long-time loans is little affected by the use of bank credit 
as a medium of exchange in place of standard money, for 
the reason already explained that commercial banks cannot 
afford to tie up their loanable funds under long-time contracts. 

Speaking generally, it is the tendency in countries in which 
the banking business is open to all who can command the 
requisite capital, as it is in the United States, for the supply 
of funds loanable at call or on short time to be multiplied 
until the rate of interest on such loans bears a certain normal 
relation to the rates of interest in other fields of investment. 
Ability to loan their credit as well as standard money enables 
commercial banks to satisfy the requirements of business men 
at lower rates of interest than could possibly be offered if 
every loan negotiated meant so much cash withdrawn from the 
control of the bank. Competition prevents the banks from 
retaining for themselves the profit which results from the 
use of their credit. They share it with their customers, and 
through these customers the whole business community is 
benefited. At last analysis, rates of interest on bank loans 
are determined, like other rates of interest, by the earning 
power of capital. Credit serves merely to supplement stand- 
ard money as a medium of exchange and introduces no new 
principle to necessitate a qualification of the explanation of 
interest already given. 

§ 196. There is still great difference of opinion among 
economists as to whether banking ought to be regulated by law 
or left entirely free. The reasons in favor of unregulated 
banking are similar to those in favor of freedom in other 
fields of business enterprise. The credit relations into which 
banks enter with their depositors and borrowers are purely 
voluntary, and the free play of economic motives tends to 
concentrate the business into the hands of upright and con- 
servative men. Moreover, the normal expansion and con- 
traction of bank credit are of such vital importance to the 
whole business community that their action ought to be con- 
trolled by those who have been chosen by a process of natural 
selection to manage the banking business, and not hampered 
by administrative rules of thumb. Bank credit, in the form 
of deposit accounts and bank notes, is a highly flexible ele- 



THE REGULATION OF BANKING 355 

ment in the medium of exchange. By means of a check a 
million dollars may be paid out as readily as one dollar. 
Where all business men have bank accounts the medium is 
made absolutely elastic by means of this convenient credit 
device. Bank notes are not quite so elastic as checks, and 
yet when additional currency is required to pay wages and 
interest at the end of the month, the half-year or the year, 
to move the crops at harvest time, or to provide for some 
other passing need, the nature and extent of which are 
perfectly well understood, banks, which are not restricted, 
may meet the emergency to the advantage of the whole busi- 
ness community by merely adding to their note liabilities. 

The importance of an elastic element in the medium of Argument 
exchange can hardly be exaggerated. In every community for Free 
the need for exchange media is variable. At certain times ^" ^^^' 
few exchanges take place, and a small amount of money 
and its substitutes will maintain prices at their normal level. 
At other seasons buying and selling are active, media of 
exchange are in great demand and unless, as a whole, they 
expand readily to meet the situation, the disease known as 
" money stringency " will attack the community with its 
accompanying symptoms, a rising rate of interest and falling 
prices. A varying demand for media of exchange is especially 
characteristic of agricultural communities. During the greater 
part of the year the buying and selling which take place 
among farmers are of very small proportions. At harvest 
time, however, the entire product of the year's industry 
changes hands, often within a period of two or three weeks. 
Unless the medium of exchange expands readily at such 
seasons, a money stringency is sure to occur and prices will 
faU at the very time when it is most important to the whole 
community that they should be sustained. Advocates of 
unregulated banking maintain that elasticity in the check 
and note currency can best be secured by permitting bank- 
ers to exercise perfect freedom in the conduct of their 
business. 

Notwithstanding the force of the arguments in favor of Counter- 
unregulated banking, nearly all countries subject their bank- argument, 
ing institutions to some degree of control, and for reasons 



356 



CREDIT AND BANKING 



History 
of the 
National 
Banking 
System. 



The Present 
Law. 



which seem to the writer conclusive. The extension of bank- 
ing depends primarily upon the presence in the communit}^ 
of mutual confidence. Depositors and note-holders must have 
confidence in the bank officials. Banks, in turn, must have 
confidence in those to whom they lend. This mutual confi- 
dence is of slow growth, and since its fruits are so important 
everything should be done to preserve it after it has developed 
to a point which makes banking practicable. If each bank 
were judged by itself by the popular mind the arguments in 
favor of free banking would be convincing; but the popular 
mind does not judge each bank by itself. It judges of the 
institution of banking as a whole. One bank failure in a 
community in which banks are just developing may serve 
to bring the whole business into disrepute. For this reason 
it is to the interest of bankers themselves to have their business 
subjected to regulations which Avill hold them all up to a 
high standard of honesty and conservatism. Admitting the 
need of government regulation as a condition to the highest 
development of the banking business, it remains a difficult 
question to decide in any given case how far regulation should 
go. This concrete aspect of the problem can best be con- 
sidered in connection with a description of the national bank- 
ing system of the United States. 

§ 197. The national banking system of the United States 
was an outgrowth of the Civil War. To meet the expenses 
of that struggle the Federal Government was forced to issue 
bonds on an unprecedented scale. The national banks were 
created to furnish a market for these bonds and at the same 
time to take the place of the state banks, some of which were 
not in a sound condition. The original act, passed in 1863, 
was revised in important respects by the National Bank Act 
of 1864, which, as amended by subsequent statutes, is still the 
basis of the system. 

General supervision over the national banks is vested in 
the Comptroller of the Currency, who represents the Secretary 
of the Treasury in all his relations with these institutions. 
The law permits the Comptroller to issue certificates of in- 
corporation, valid for twenty years, to any five reputable 
citizens who wish to establish a national bank and can com- 



EMERGENCY NOTES 357 

mand the requisite capital.* Banks organized with a capital 
of $150,000 or less must invest one-fourth of their capital in 
United States bonds and deposit them with the Comptroller 
of the Currency. Originally, larger banks had so to invest 
one-third of their capital, but at present the requirement for 
such banks is the deposit of $50,000 only in bonds. Any 
national bank may so invest its entire capital. In exchange 
for the bonds deposited, the Comptroller is required to return 
national bank notes up to their par value (or their market 
value if they are quoted below par), which the banks add 
to their cash resources and use like any other kind of money 
in their banking business. Banks which receive such notes 
must deposit, in addition to the bonds, a redemption fund in 
lawful money equal to five per cent of the face value of 
their notes in circulation. 

The currency panic and collapse of bank credit which Emergency 
occurred in October, 1907, led in 1908 to the enactment by Notes 
Congress of an amendment to the National Bank Act, which ° 
permits, under careful limitations, the issue by national banks 
organized in " national currency associations " of " emer- 
gency notes ' ' to the aggregate amount of $500,000,000. As , 
a basis for these notes securities other than United States 
Government bonds are accepted, the Treasury being protected 
from loss by the joint-liability of all the banks in the " cur- 
rency association," by a ten instead of a five per cent deposit 
in the redemption fund and by the large margin required 
between the value of the securities accepted and of the notes 
issued. Moreover these emergency notes are subject to a 
heavy tax rising from five per cent the first month to ten 
per cent in case they remain in circulation for as long as 
six months but not longer than a year. This insures that 
they will be issued only to tide over periods of acute strin- 
gency and that they will be promptly retired so soon as the 
stringency has passed. 

On the strength of the ample security provided for the 
ultimate payment of bank notes at the expense of the issuing 

* The minimum capital in places of 50,000 or more inhabitants is 
$200,000. An amendment added in 1900 lowers the minimum for places 
of 3,000 inhabitants or less to $25,000. 



358 



CREDIT AND BANKING 



Protection 
of Note 
Holders. 



Of 

Depositors. 



Defects in 
System. 



bank, the United States Government itself assumes respon- 
sibility for the redemption of such notes, with the consequence, 
as already pointed out, that they are now considered as safe 
throughout the United States as any kind of money in cir- 
culation. Besides issuing notes — a function practically con- 
fined to the national banks, since the demand notes of other 
banking institutions are subject to a tax of ten per cent 
under an act passed in 1865 — the national banks may engage 
in a general banking business, except that they may not lend 
on the security of real estate. 

Depositors in the national banks are protected in various 
ways. "When such banks fail, their stockholders are liable 
to assessment, to make up any deficit, up to the full par 
value of their stock. The banks are required to make at least 
five reports of their condition in the course of each year on 
such dates as may be designated without previous notice by 
the Comptroller. They must also submit to periodic exami- 
nations — also unannounced — by bank examiners acting under 
the orders of the Comptroller and empowered to inquire into 
every detail calculated to throw light on the true condition 
of the bank examined. Finally, the banks are divided into 
three classes — central reserve city banks (those of New York, 
Chicago and St. Louis, on April 1, 1913), reserve city banks 
and others. Banks in the first class are required to keep 
continuously a reserve in lawful money equal to 25 per cent 
of their deposit liabilities. Those in the second class must 
also have a reserve of 25 per cent, but one-half of this may 
be kept on deposit with national banks in the central reserve 
cities. The reserve required of banks in the third class is 
only 15 per cent, and of this three-fifths may be kept on 
deposit with national banks in reserve cities. Whenever a 
bank's reserve falls below the legal minimum it is required 
to discontinue its discount business until the reserve is re- 
stored, and if this is not accomplished within thirty days it 
may be placed in the hands of a receiver. 

§ 198. On the whole, the banking system which has grown 
up under the regulations just described has more than justified 
the anticipations of its authors. Not only have national banks 
multiplied until they now carry on the bulk of the commercial 



BANK NOTES OF UNITED STATES 359 

banking business of the country, but national bank notes have 
proved a perfectly safe medium of exchange and depositors 
in national banks have lost surprisingly little as the result 
of bank failures since the system came into operation. There 
are, however, two respects in which, in the opinion of most 
authorities, the system admits of improvement. These are in 
connection with the note issue and reserve requirements of 
the present law. 

The primary reason for permitting banks to issue notes Bank Notes 
is to enable them to supply the business community with a I'erversely 
cheap and elastic medium of exchange in sections and for 
transactions for which checks are unavailable. The present 
bank note system of the United States is perversely elastic. 
Helpful elasticity results when the regulations to which note- 
issuing banks are subject are such that it is profitable for 
them to issue additional notes when more currency is needed, 
and to withdraw notes from circulation when the currency 
is redundant. One symptom of a need for currency in dis- 
tricts which cannot make large use of cheeks against deposits 
as a medium of exchange, is the withdrawal of deposits, and 
this must force banks to raise their rate of interest unless 
they can meet the emergency by an issue of notes. A redun- 
dant currency, on the other hand, is indicated by an increase 
in deposits. If the bank note currency is elastic it will 
expand to satisfy the increased demand for currency in the 
first case, and contract in the last. This takes place under the 
banking systems of most countries, but under the system of 
the United States, which requires, in addition to the five per 
cent redemption fund deposit, a dollar for dollar bond de- 
posit, a contraction in bank deposits makes profitable not 
the issue, but the withdrawal of notes. When deposits are 
being withdrawn a bank wishes to increase its available funds. 
It cannot do this in the United States by issuing bank notes, 
because for every one hundred dollars so issued more than 
one hundred dollars must be tied up in the premium bonds 
and redemption deposit required as security. On the con- 
trary, it can do it by withdrawing bank notes from circulation, 
because for ninety-five dollars in legal money sent to Wash- 
ington for this purpose a bond that may be sold at once for 



360 



CREDIT AND BANKING 



Proposed 
Reform in 
System of 
Note 
Issues. 



more than one hundred dollars will be returned. It is only 
when the currency is already redundant that national banks 
are likely to find it profitable to increase their note issues. 
At such times they have unloaned money in their vaults. 
Investing this money in United States bonds which afford 
an interest and receiving back a nearly equal sum in bank 
notes which may be paid out to depositors may, under these 
circumstances, prove profitable. The tendency of bank notes 
under our national banking system is thus to contract when 
expansion is desirable, and to expand when the currency is 
already redundant. This is not true of the emergency notes 
authorized by the act of 1908, but the onerous restrictions 
limiting the issue of such notes confine their use to periods 
of acute money stringency. A better bank note system would 
prevent a money stringency from becoming acute and thus 
render the issue of emergency notes, except under extraordi- 
nary circumstances, unnecessary. 

Two features of the emergency-currency act of 1908 sug- 
gest the directions which the reform of our bank note system 
should take. They are the provisions making the banks 
organized in currency associations jointly responsible for 
their note issues and permitting the deposit of two-name 
credit paper having no more than four months to run as 
security for the emergency notes to be issued. Joint-respon- 
sibility on the part of the banks is important because its 
absence encourages banks to meet a threatened stringency by 
hoarding their individual resources when what is needed to . 
restore public confidence is the courageous use of the col- 
lective banking capital to satisfy the legitimate requirements 
of the business community. Permitting the issue of notes 
on the security of short-time credit paper is advantageous 
because such paper constitutes the chief item in the ordinary 
assets of a commercial bank and it may be hypothecated 
without any diversion of the bank's resources from their 
proper function, which is to furnish to responsible enterprisers 
the purchasing power they require to carry on their business 
undertakings. Space will not permit an adequate discussion 
of this complicated problem, but it is believed that no satis- 
factory solution of it will be attained until concentration of 



STATISTICS OF BANKING 361 

banking responsibility for bank note issues is carried to the 
point of creating one central banking association with a 
monopoly of the privilege of issuing bank notes and until this 
central association is allowed to put notes in circulation, under 
proper safeguards, on the basis of ordinary banking assets. 
This is the policy to which the leading countries of Europe 
have been breught, and the signal success of the Bank of 
France and of the Imperial Bank of Germany in supplying 
those countries with safe and elastic bank note currencies in- 
vites imitation. 

The second defect referred to consists in permitting the Reforms in 
reserves required by law of national banks in classes two and ^.^serve 
three to be deposited in part with other banks. To the extent -^^ ^™' 
that legal reserves are necessary, they should be required 
without qualification of the banks for the protection of whose 
depositors they are designed. The present system of the 
United States tends to concentrate a large part of the reserves 
of national banks in the national banks in central reserve 
cities, and especially in New York. Since New York banks 
treat the deposits of other banks in much the same way that 
they do the deposits of individuals and maintain ordinarily 
only the 25 per cent reserve against them required by law, 
the banking sj^stem of the whole country is exposed to serious 
danger whenever any unusual demand is brought to bear on 
the banks of the metropolis. This concentration of responsi- 
bility for the whole credit system in the financial center of 
the country is to some extent natural and inevitable, but it 
seems in the highest degree imprudent deliberately to encour- 
age and extend it, as does the present law. Requiring each 
bank to keep in its own vaults its legal reserve would serve 
to foster conservative banking, whereas the present system en- 
courages, if it does not actually lead to, recklessness. 

§ 199. The predominant role which credit plays in modern Statistics 
business is indicated by the giant proportions which the bank- o^ Banking 
ing business has attained. In the United States on September ^^^*^*^" 
1, 1911, there were 7301 national banks with an aggregate 
capital (with surplus) of $1,695,000,000, aggregate (net) de- 
posits of $6,685,000,000 and aggregate loans of $5,663,000,000. 
Forty of these 7301 banks were located in New York City and 



362 CREDIT AND BANKING 

their relative importance is indicated by the fact that they 
alone had a capital (including surplus) of $243,000,000, net 
deposits of $1,151,000,000 and loans of $886,000,000. While 
national banks now do the major portion of the banking 
business of the country, state banks still hold an important 
place. On June 30, 1911, 12,843 state banks were reported 
to the Comptroller of the Currency. Their aggregate capital 
(including surplus) was $624,000,000, their individual de- 
posits were $2,778,000,000 and their loans totaled $2,439,000,- 
000. On the same date 1116 private banks with capital of 
$29,000,000, deposits of $142,000,000 and loans of $128,000,000 
were reported. More important than state and private banks 
together have become, in recent years, so-called loan and trust 
companies. There were reported to the Comptroller on the 
same date 1251 of these banking institutions, with capital of 
$786,000,000, individual deposits of $3,296,000,000 and loans 
of $2,429,000,000. Finally, account must be taken of the 
important role which savings banks play in bringing together 
the small savings of their millions of depositors and making 
them available for long-time loans on real estate mortgages 
and other safe securities. On the same date there were in the 
country 1884 savings banks with capital of $334,000,000, in- 
dividual deposits of $4,213,000,000 and loans of $2,415,000,000. 
The totals which result from adding these items together for 
all of the different banking institutions of the country assume 
truly stupendous proportions. For the 24,395 different in- 
stitutions and firms they shoM' an aggregate capital of $3,468,- 
000,000, aggregate individual deposits of $17,114,000,000 and 
aggregate loans of $13,074,000,000.* Perhaps the most sig- 
nificant aspect of these figures is that the aggregate individual 
deposits if divided by the population of the continental United 
States on June 30, 1912 (officially estimated at 95,656,000), 
gives as the average per capita deposit on that date the sub- 
stantial sum of $179. Of course a considerable part of these 
deposits was based on loans made by the banks to the in- 

* A comparison of the returns from the national banks on June 7 
with those on September 1, 1911, indicates that the error involved in 
taking their condition on the last date instead of on June 30 in this 
calculation involves a negligible error. 



CONCLUSION 363 

dividuals to whom they were credited, but that the average 
per capita deposit, whatever the origin of the deposits, 
amounted to about one-eighth of the estimated average per 
capita wealth of the country is striking evidence of the part 
banks have come to play in the industrial life of the day. 

§ 200. It would be difficult to exaggerate the importance Conclusion, 
of the services which credit, and especially bank credit in 
its various forms, renders the business community. Through 
the agency of banks a cheap and elastic check currency is 
substituted for money, which is both costly and for many 
purposes inconvenient. Further, banks serve to gather to- 
gether the small savings of thousands of persons — savings for 
which they have no immediate use — and to put these at the 
disposal of active business men on terms which enable them to 
produce at a minimum of cost. Finally, banks are the ready 
agents of the government and of great corporations when 
large sums of purchasing power are required, and carry 
through easily financial operations which without their aid 
would be fraught with most serious consequences to the whole 
business world. Notwithstanding these services, there is in 
the United States a widespread distrust of banks and bankers, 
which has been reflected more than once in Federal and state 
legislation. The impression is widely prevalent that while 
banks themselves reap large gains by lending their credit at 
interest, no corresponding benefits extend to those who bor- 
row from banks. In the judgment of the author this belief 
is without substantial foundation. For banking as for other 
branches of business competition is a force which compels a 
sharing of profits with the whole community. The more fully 
the banker is permitted to utilize his credit either in the form 
of deposit accounts or bank notes, the lower will be the rate 
of interest which he can afford to take for his services, and 
competition may be relied upon to force him to accept this 
lower rate. The guiding principle in connection with bank 
regulations should be to grant the fullest liberty that is com- 
patible with a reasonable degree of security. Little fear need 
be entertained lest in the long run this liberty will not be used 
to advance the general good. 



S64 CREDIT AND BANKING 



REFERENCES FOR COLLATERAL READING 

In addition to the references given in the preceding chapter the 
following are suggested: *Dunbar, The Theory and History of Banking; 
*8eligman, and others, The Currency Problem; *Muhleman, Monetary 
and Banking Systems; Bolles, Practical Banking; Conant, History of 
Modern Banks of Issue; Knox, History of Banking; *Taussig, PrincipJes 
of Economics, Chaps. XXIV.-XXVIII.; Reports of the Aldrich Currency 
Commission, 1910-1912. 



CHAPTER XXI 

FOREIGN EXCHANGE AND SOME UNSETTLED 
MONETARY PROBLEMS 

§ 201. In foreign as well as domestic trade credit now serves The Nature 
as the principal medium of exchange. Those who purchase of Foreign 
goods from abroad pay for them by buying drafts, or post- ^^ lange. 
office, express or cable money orders and sending these to the 
foreign seller, or by permitting the foreign seller to draw on 
them by means of drafts, or bills of exchange, for the sums 
due. Orders for the payment of money in a foreign country 
are called " foreign exchange," and the buying and selling 
of such exchange is, as already suggested, a usual part of 
the business of a modern city bank. A description of the 
factors that enter into this business as it is conducted between 
the United States and the United Kingdom will serve to 
introduce a discussion of some of its more general aspects. 

Anglo-American trade now includes as varied transactions Inter- 
as the domestic trade between different sections of either national 

country. In addition to commodities, stocks, bonds and other ^® ^ ^ 

. and Debits. 
securities are constantly dealt in between the two countries; 

profits, rents, interest and even wages are transmitted ; freight 
charges are paid ; travelers abroad receive remittances from 
home; and bankers' loans are exchanged. If these different 
transactions be considered from the point of view of one 
of the countries, say, of the United States, they may be 
arranged in two groups: those necessitating payments to the 
country and those necessitating payments by the country. 
The first may be thought of as credits acquired by the United 
States. These arise from the sales of commodities or securities, 
from payments in the way of profits, rents, interest or wages 
due to Americans from the United Kingdom, from the ex- 
penditures of Englishmen in the United States, and finally 
from loans by English to American bankers. The second may 

865 



366 



FOREIGN EXCHANGE 



Sterling' 
Exchang'e. 



The Gold 
Points. 



be described as debits, and arise from the opposite transac- 
tions, e. g., purchases of commodities or securities, loans to 
English bankers, etc. 

For reasons which are mainly historical the custom has 
arisen of making London the clearing house for the credit 
instruments used in connection with Anglo-American trade. 
Americans having payments to make in England usually buy 
drafts payable in London and transmit them to their creditors. 
Americans who are creditors of Englishmen, on the other 
hand, usually draw drafts or bills of exchange, payable in 
London, upon their debtors, instead of waiting for them to 
remit. They sell these to bankers, who send them to their 
correspondents in London- for collection. Orders for money 
payable in London are known as " sterling exchange " be- 
cause they call for pounds sterling. If the orders for pay- 
ments to English creditors are exactly offset by the orders for 
payments by English debtors, the credit instruments which 
arise in connection with the various transactions described will 
just balance one another when they come together in London 
and no other medium of exchange than credit will be required. 
This outcome, where transactions are so vast, is, of course, 
highly improbable. It more frequently happens that there is 
a balance either on the credit or on the debit side to be 
liquidated by means of further transactions. 

§ 202. The rate at which sterling exchange is quoted in 
the United States never departs very far from the sum in 
American dollars into which the 113 grains of gold in the 
standard English coin, the sovereign (equivalent to one pound 
sterling), will be coined by our mints. This is called the " par. 
of exchange " and is $4.866-f-- The rate of sterling exchange 
fluctuates within narrow limits about this par for the simple 
reason that the alternative is always open to American bankers 
and brokers who have debts to pay or to collect in the United 
Kingdom of exporting or importing standard gold coin. The 
limits within which sterling exchange normally fluctuates are 
called the " gold points " and are now approximately, for 
demand exchange, $4.84^- and $4.88^. That is to say 
when the rate for sterling exchange falls as low as $4.84| 
the margin between this and par rather more than suffices to 



RATE OF STERLING EXCHANGE 367 

cover freight, insurance, loss of interest, etc., on the sovereigns 
for which the exchange calls and which may be imported 
and exchanged @ $4.866-f- for American money at our mints. 
Under these circumstances there is always an active com- 
petition among bullion brokers to buy sterling exchange as it 
approaches $4.84^ and at this price their demand for it 
is practically unlimited. The more they can buy the larger 
the profit they can make by importing the gold for which it 
calls and converting it into American money. On the other 
hand, as the rate of sterling exchange rises toward $4.88^ 
it begins to be profitable to export American gold to be con- 
verted into English money in order to sell exchange against 
it at the premium. The margin between the high rate and 
par now covers the freight, insurance, loss of interest, etc., on 
American gold sent to London and as before the competition 
of bullion brokers prevents the rate from rising above the 
upper gold point. In determining the gold points interest 
on bullion in transit is, of course, an important item. The 
higher the rate of interest the wider the gap between the gold 
points ; a lower rate narrows it. 

§ 203. The actual rate of sterling exchange is determined The Rate 
from day to day by the relation between the demand for it °^ Sterling 
and its supply. All of the transactions which have been ^° ange. 
enumerated as belonging on the debit side, from the point of 
view of the United States, give rise to a demand for sterling. 
The supply comes from the transactions enumerated on the 
credit side. International bankers and others who buy and 
sell foreign exchange tend by their competition to adjust the 
rate so that the demand and supply will just balance. Excess 
on the side of supply causes the rate to fall, the limit being 
the lower gold point, at which credit is abandoned as a medium 
of exchange and gold is used instead. Excess on the side of 
demand causes the rate to rise, the limit here being the upper 
gold point, at which credit again is discarded and gold used. 
Gold thus serves as the medium in which international bal- 
ances are settled when debits and credits fail to offset each 
other. 

Among the transactions which give rise to debits and credits 
the most sensitive are those we have characterized as bankers' 



368 



UNSETTLED MONETARY PROBLEMS 



Controlling 
Rate of 
Exchange 
Through 
the Rate of 
Interest. 



Influence 
of Prices. 



loans. Anglo-American banking houses, of which there are 

now many, divide their banking capital between London and 

New York. Self-interest leads them to keep the major part 

of this capital and of their entire loanable funds at that center 

in which the higher rate of interest prevails. Suppose that 

for a time this center happens to be New York — as it usually 

is. To take advantage of the high rate, bankers will wish to 

transfer their funds from London to the more profitable loan 

market. They will do this most cheaply by selling drafts on 

London so long as they can get a price for these drafts above 

the lower gold point, A rising rate of interest in New York 

thus serves to attract loanable funds from abroad, and these 

add to the supply of sterling bills. This cause may serve to 

add so largely to the supply that the rate of exchange will be 

forced down to the lower gold point and a part of the transfer 

will be effected by means of an importation of gold. The 

Bank of England and the state banks of other countries, 

which are in a position to control the bank rates of interest 

take advantage of this relation between interest rates and 

rates of foreign exchange to draw gold into the country 

when they so desire. By advancing their rates of discount 

they cause the rates of foreign exchange to move to the gold 

import point. 

More important in their aggregate effect than changes in 

rates of interest are changes in the prices of the commodities 

and securities that enter into foreign trade. Falling prices in 

the United States attract foreign buyers and their purchases 

add to the supply of sterling bills. Rising prices not only 

discourage foreign purchases, but stimulate purchases from 

abroad on the part of Americans, thus adding to the demand 

for bills. Through these two influences — change in interest 

rates and changes in prices — the rate for sterling exchange is 

kept oscillating backward and forward, but always within the 

limits fixed by the gold points — always, that is, unless the 

credit system of one of the countries concerned is seriously 

deranged.* 

* As was, for example, that of the United States in the autumn 
of 1907, when the premium which money commanded in New York 
caused gold to be imported from London, although the rate for sterling 
exchange stood near the point at which gold is normally exported. 



THE GOLD SUPPLY 369 

§ 204. In the preceding discussion attention has been con- Three- 
fined to foreign exchanges between the United States and the cornered 
United Kingdom. In actual practice these exchanges are in- Exchanges, 
timately connected with all the other foreign exchange trans- 
actions to which the countries are parties. Credit is so much 
more economical than bullion as a medium of exchange that 
gold is only shipped after all of the resources of credit have 
been exhausted. In the case of the United States some 
branches of its trade, as, for example, its trade with Brazil, 
call habitually for payments that are not offset by credits 
acquired in that country by Americans. Nevertheless, bullion 
is rarely shipped from the United States to Brazil, because it 
is quite as satisfactory to Brazilian bankers to receive sterling 
bills which add to their credits in London, and on the basis 
of which they can sell drafts to Brazilian importers from 
Europe. Thus a three-cornered exchange of credit instruments 
serves to adjust balances, which would otherwise necessitate 
the shipment of gold from North to South America and thence 
to Europe. 

Another complication arises in connection with foreign ex- When 

change when the monetary systems of the countries considered standards 

Differ, 
are not based on the same standard. Between the United 

States with its gold standard and China with its silver stand- 
ard there is no fixed par of exchange. The general principles 
regulating rates of exchange are the same in such cases as for 
two countries with the gold standard, but the range within 
which such rates may fluctuate admits of no precise definition. 
This is an inconvenience that will be avoided only when the 
gold standard has been universally adopted. 

§ 205. The importation or exportation of gold, which is the A Country's 
resort to which international bankers must have recourse when ^^^^ Supply 
foreign credits and debits can be balanced by no cheaper _,^^,^^ ^^ 
means, causes a continuous redistribution of the world's supply 
of that metal. The last and most important point to note in 
the theory of foreign exchange is that this distribution is self- 
regulating and always gives to each country that proportionate 
share of gold which is needed to keep its rate of interest and 
level of prices in their normal relation to those of other coun- 
tries. Suppose the cause of the movement of gold from one 



370 UNSETTLED MONETARY PROBLEMS 

country to another to be a rising bank rate of interest. As 
gold pours in and is added to bank reserves in the country- 
affected it will tend to check such a rise, and meantime bank 
rates abroad, where bank reserves have been depleted, will 
tend to rise to re-establish the normal relation. If the cause 
of the higher rate in the gold-importing country was some 
temporary demand for bank loans, bankers will find their 
reserves too large when the emergency has passed, and will 
lower their rate of interest to attract borrowers. This process 
cannot go far, without causing an exportation of gold to re- 
establish the balance. Suppose, again, that the importation of 
gold has been induced by the low prices at which commodities 
are being sold in the importing country. Such importation will 
before long itself cause prices to rise, there being more money 
to serve as a medium of exchange than before, while the 
withdrawal of gold from other countries will in time cause 
their prices to fall. These results will follow the more 
promptly because ordinarily the new gold will find its way 
into bank reserves and will add to the use of credit as a 
medium of exchange much more largely than it adds to the 
country's supply of standard money. In the same way its 
exportation will serve ordinarily to deplete bank reserves and 
to cause a contraction of credit that will lessen the supply of 
media of exchange by much more than the amount of gold 
lost. By these means the movement of gold in one direction 
is soon checked with every likelihood that a counter-movement 
will follow, unless the new distribution proves permanently 
satisfactory because of some increased need on the part of 
the importing country. 
TheTTnited It follows from the above considerations that the importa- 
tion or exportation of gold is not a matter of any special 
importance either to the business community or to the govem- 
Export " ment so long as a country's monetary system is kept in a 
Gold. sound condition. If gold is leaving a country, as it left the 

United States in 1893, because its place is being taken by 
an excessive issue of credit money, grave uneasiness may well 
be felt. If, on the other hand, it is being imported because 
of a violent contraction of credit that has suddenly increased 
the demand for legal money as a means of payment, as it 



states 

Should 

Normally 



DEMAND AND SUPPLY 371 

was into the United States in the autumn of 1907, there is 
again ground for anxiety. Experience of movements of gold 
excited by causes like these has led American business men 
to attach exaggerated importance to this phenomenon even 
when the reasons for it are perfectly normal. There is a wide- 
spread belief, inherited from the Mercantilists of the eigh- 
teenth century, that to gain gold is an advantage and to lose 
it a disaster. Even in countries which produce no gold them- 
selves there is no basis for this belief. They can count con- 
fidently on retaining their proportionate share of the world's 
gold so long as their money and credit systems are sound. 
For a country like the United States, which contributes 
each year nearly one-fourth of the total addition to the 
world's gold supply, the belief is absolutely groundless, 
since the normal condition for the United States is to ex- 
port its surplus gold, as it exports its surplus cotton and 
wheat. 

§ 206. Although the subject of money was one of the first Unsettled 
to engage the attention of economists and thousands of vol- Monetary 
umes and pamphlets have been written concerning it, there is 
still great difference of opinion in regard to some of the prob- 
lems which it presents. These have been styled " unsettled," 
to warn the reader that in the following sections controverted 
points are considered and that he must be on his guard against 
accepting too readily the opinions of the author. The first 
problem relates to the factors which determine the value of 
money or — what is the same thing — the level of prices. 

The influences which connect the value of the dollar of Demand 
the United States with the value of 23.22 grains of gold have and Supply 
already been explained (Sections 184-185). So long as these ^^ delation 
continue active the gold standard must be maintained and 
" the value of money " will, be merely another expression for 
the value of gold. Our problem reduces therefore to an ex- 
planation of the circumstances which determine the value of 
gold. In previous chapters it has been shown that the value 
of any commodity depends transiently upon the temporary 
relation between the demand for it and its supply and in the 
long run on the more permanent influences which adjust the 
normal supply to the normal demand. The demand for a 



372 



UNSETTLED MONETARY PROBLEMS 



Three 
Different 
JSinds of 
Demand. 



The Arts 
Demand. 



The 

Monetary 
Demand. 



commodity springs from the various uses to which it may be 
put. In the case of gold we may distinguish these as the 
industrial and arts uses, which give rise to what we will call 
the " arts demand," the use as a medium of exchange, which 
gives rise to the " monetary demand " proper, and the use 
as a reserve of value for the redemption of credit money and 
credit instruments generally, which gives rise to a secondary 
monetary demand, which we will call the " reserve demand." 
An increase in either of these three forms of demand tends 
to increase the value of gold and incidentally to withdraw it 
from other uses to the use in connection with which the 
increase in demand has arisen. On the other hand, a decrease 
in the supply of gold will tend to increase its value. Unless 
the increased demand is balanced by an increased supply or 
the decreased supply by a decreased demand, the increase in 
value will actually occur and the level of prices will fall. 
Exactly opposite results, of course, follow a decrease in either 
form of demand or an increase in supply. 

§ 207. The demand for gold — which under our free and 
gratuitous gold coinage system is the same as money — is as 
definite and limited as is the demand for any other com- 
modity. For it is not true, as some writers have stated, that 
" money is the one thing of which no one ever has enough." 
Such a view confuses the desire for wealth in general with a 
demand for money and loses sight of the fact that the 
amount of money each one can use advantageously depends 
on the amount of his wealth and the nature of his busi- 
ness. The limitations on the demand for gold, or money, be- 
come evident as w^e consider the three different kinds of 
demand. 

The arts demand is very general and highly elastic. At 
present it is believed to absorb between one-fourth and one- 
third of the annual production, and in the future it may 
be depended upon to increase with the growth of the world's 
population and wealth. The monetary demand for gold de- 
pends on the number of exchange transactions to be effected 
with gold coin as the medium. No exact calculation of the 
number of exchanges to be effected can be made, but it is 
obvious that this is only because of the incompleteness of 



RESERVE DEMAND 373 

our information and not because the number is not limited 
and measurable. As already pointed out only a small pro- 
portion of the exchanges that are effected use gold as their 
medium. The vast majority employ credit in its various forms. 
In the United States gold coin is hardly used at all as a medium 
of exchange east of the Mississippi River. Where money is 
required, the various forms of token and credit money supplied 
by the government are found more convenient. Moreover the 
use of money of any kind is the exception rather than the rule 
in all advanced countries. Book-credit, checks, drafts, money 
orders, bills of exchange, etc., are the usual means of payment 
employed by twentieth century business communities. In 
consequence the monetary demand for gold is the least im- 
portant of the three forms of demand and the one most likely 
to decline in relative importance in the future, because of the 
increasing preference of progressive countries for forms of 
credit as their media of exchange. 

The reserve demand for gold includes not only the demands The 
of governments which have to provide for the redemption of ^^^erve 
their token and credit money and of banking institutions which 
have their credit obligations to meet, but also the demand of 
individuals who wish for any reason to have by them a store 
of the precious metal. This demand has increased greatly in 
the last thirty years in consequence pf the fact that most 
of the countries which have established the gold standard dur- 
ing that period, have contented themselves, as has the United 
States, with securing sufficient gold to insure the converti- 
bility of their other forms of money without actually with- 
drawing these from circulation. This has necessitated in all 
parts of the world the accumulation of large gold reserves. 
Exact statistics in regard to the extent of the gold reserves 
held by all the governments and banking institutions through- 
out the world are not available, but judging from the amount 
of gold that is known to be held in the United States and 
some of the leading countries of Europe, it is safe to say that 
more than one-third the entire stock of gold in existence is 
required to satisfy the reserve demand. Moreover, if our 
anticipation that the monetary demand for gold will decline 
in the future is well grounded, there must be a relative in- 



374 UNSETTLED MONETARY PROBLEMS 

crease in the reserve demand, since every extension of the 
use of credit implies additional reserves on the part of the 
governments or banks which supply the credit media. This 
increase will not be so rapid as it has been in the recent past 
when one country after another has adopted the gold standard 
and there has been at times a veritable ' ' scramble for gold, ' ' 
but it should cause the monetary and reserve demands for 
gold combined to keep pace with the growth of population and 
wealth. Considering all three forms of demand together we 
may conclude that the demand for gold in coming years is 
likely to grow at about the same rate as the world's wealth, 
but that it will be subject to violent fluctuations until the 
machinery of credit is so perfected that it is no longer liable 
to the periodic breakdowns which were so common during the 
last century. 
The Supply § 208. The supply of gold admits of more exact measure- 
ment than the demand for it. According to different authori- 
ties the world's stock by 1850 equaled between $2,000,000,000 
and $3,000,000,000. The production since that date has 
amounted to about $11,000,000,000, so the present stock is 
between $13,000,000,000 and $14,000,000,000. The history of 
gold production since 1840 is briefly summarized in the fol- 
lowing statistics. From 1841 to 1850 the annual production 
averaged $36,000,000, which was three times the average an- 
nual production for the preceding years of the century. From 
1851 to 1860 the annual average was $133,000,000. The total 
of $134,000,000 attained in 1860 was not equaled in any sub- 
sequent year until 1892. The lowest point was reached in 
the early eighties, since which time there has been a fairly 
steady increase, as shown by the following table : 

WORLD'S PRODUCTION OP GOLD 



Annual average, 


1871-1880 . 


$115,000,000 


„ „ 


1881-1885 . 


99,000,000 


» >» 


1886-1890 . 


113,000,000 


" " 


1891-1895 . 


161,000,000 


J> 5> 


1896-1900 . 


258,000.000 


JJ !> 


1901-1905 . 


322,000,000 


J» » 


1906-1910 . 


433,000,000 




1911 . 


462,000,000 



MEASURING VALUE OF MONEY S75 

As these statistics indicate, the production of gold re- Expiana- 
sponded but slightly to the increased monetary and reserve tionof 
demands prior to 1896. Since that date the response has ^^^^®- 
been increasingly adequate. In consequence of the South 
African War production was temporarily interrupted in 1900 
and 1901. In 1902 the upward trend was resumed and since 
1903 each year's output has established a new high record, 
with every indication that production on an ample scale will 
be continued for some time to come. 

A comparison of the tendencies that have been described. Conclusion. 
as regards the demand for and the supply of gold since the 
early seventies, suggests the probability that during the period 
of expanding demand and small production, which preceded 
1896, the value of gold would have appreciated markedly, 
and that with the return of demand to normal conditions and 
the notable increase in production since its value would have 
depreciated. That just such an up and down movement — or 
down and up movement, if we look at the phenomenon from 
the viewpoint of prices — occurred, is proved by a study of 
the statistical evidence. 

§ 209. The value of money is measured, as is the value of Measuring 

anything else, by the quantity of other commodities for which *^® Value 
• .,, n -TT^Ti , -1 .1 T of Money 

it will exchange. When two periods are to be compared a ^^.^^^ 

difficulty arises because the value of money will be found xevelof 
usually to have changed in different directions as regard differ- Prices, 
ent commodities. This is avoided by the method of index 
numbers. To illustrate its use, suppose that w^heat, anthracite 
coal, pig iron, cotton cloth and copper be taken as representa- 
tive of all commodities, and that it be found that on January 
1st of a certain year one dollar would buy one bushel of 
wheat, one-fifth of a ton of anthracite coal, one-twen- 
tieth of a ton of pig iron, twenty yards of cotton cloth or 
ten pounds of copper, while on January 1st of another year 
a dollar would command three-fourths of a bushel of 
wheat, one-fourth of a ton of coal, one-tenth of a ton of 
pig iron, twenty-five yards of cloth or five pounds of copper. 
Using 100 as the index number for the different commodi- 
ties we should write out the following tables for the two 
dates : 



376 



UNSETTLED MONETARY PROBLEMS 



January 1, First Year 



January 1, Second Year 



$1 = 1 bushel wheat . 


. = 100 


$1 


= f bushel wheat . 


= 75 


„ ■= i ton coal . . 


. = 100 


„ 


z= I ton coal . . 


= 125 


„ = ^L ton iron . 


. = 100 


» 


^ yij ton iron . . 


= 200 


„ = 20 yards cloth . 


. = 100 


„ 


^ 25 yards cloth . 


= 125 


„ ^ 10 pounds copper 


.= 100 


$5 


= 5 pounds copper . 


= 50 


$5 = 


500 


575 


or $1 = 


100 


or$l 


= 


115 



Other 
Methods. 



Halation 
Between 
Level of 
Prices and 
Value of 
Money 
Illustrated. 



The calculation indicates that the value of a dollar, as 
measured in these five commodities, increased between the two 
dates from 100 to 115, or 15 per cent. By extending it to 
include all commodities, we could obtain similar averages for 
the two dates that would seem to give a comprehensive view 
of any change in the value of money that might have occurred 
between them. 

This method, called that of simple averages, is open to the 
objection that it treats all commodities as of equal importance 
in their influence on the value of money. It is obvious that 
there will be chance of error if such diverse goods as, for 
example, coal and chewing gum each be given the same index 
number for the purpose of a calculation. To avoid this three 
different expedients have been proposed: (1) to confine the 
calculation to the principal commodities which figure in a 
country's trade or consumption; (2) to assign different index 
numbers to different commodities " weighted " so as to cor- 
respond to their different degrees of importance; (3) to re- 
peat important commodities in different forms in the calcula- 
tion so that they will have greater influence on the result than 
unimportant commodities that appear but once. Space will 
not permit a detailed consideration of the merits of these 
different plans, but the general observation may be made that 
in practice the method of simple averages, judiciously em- 
ployed, has been found to lead to about the same conclusions 
as the more elaborate methods proposed as substitutes for it. 

Whichever method for measuring the value of money, or 
gold, be used, it is usually more convenient to make the cal- 
culation in terms of the prices for which commodities sell than 
in terms of the quantities of commodities which a given sum 
of money will purchase. Any conclusion in regard to changes 
in prices may be readily translated into a conclusion in regard 



PRICE STATISTICS 377 

to the value of money, since, as already explained, they are 
in reciprocal relation to each other. To give a concrete ex- 
ample, suppose that a study of prices shows a rise of 25 per 
cent in the general level during a given period. This signifies 
that commodities which formerly cost $1.00 will now cost 
on the average $1.25. This being the case, $1.00 will now 
purchase only four-fifths as much as it would before, or its 
value will have fallen one-fifth, or 20 per cent. 

§ 210. Since serious attention began to be given to the in- Price 
fluenee of price fluctuations on prosperity, numerous elab- Statistics, 
orate investigations have been made into the course of whole- 
sale prices over long series of years. Representative of such 
investigations is that continued year by year by the United 
States Bureau of Labor,* the results of which are indicated 
on the chart on the next page. 

Unfortunately this investigation begins no farther back than 
1890, so it should be supplemented by the results shown by 
other inquiries. A comparison of ail important investigations 
tracing the course of gold prices from 1870 to 1890 proves 
conclusively that the fall in prices during the years 1890 to 
1897 shown on the chart was the culmination of a downward Discussion 
movement, which began in the early seventies and which in- of Chart, 
volved a total decline of nearly if not quite 50 per cent, or, 
what is the same thing, an appreciation of 100 per cent in the 
purchasing power of gold. After 1897, as shown by the chart, 
prices rose continuously — except for slight reactions in 1901 
and 1903 — -until the autumn of 1907, the total advance in the 
decade being over 44 per cent, or involving a depreciation in 
the value of gold of nearly 31 per cent. The " October panic " 
of 1907 abruptly checked this upward tendency but the index 
number for the year of depression which followed (1908) fell 
only to the level which had prevailed in 1906 and then rose 
in 1909 and 1910 to the highest level yet reached. Whether 

* Price statistics in regard to the 250 odd commodities included in 
the investigation, together with the index numbers showing the course 
of average prices for the whole period covered, were published each year 
until 1912 in the March numbers of the Bulletin of the Bureau of Labor. 
Special bulletins are now issued dealing with wholesale and retail prices, 
respectively. For a full description of other calculations, see Laughlin, 
Principles of Money, Chap. VI. 



378 UNSETTLED MONETARY PROBLEMS 

the slight decline in 1911, like the earlier ones, is to be tem- 
porary only and prices are to resume their upward swing with 
the return of prosperity, to the indefinite cheapening of gold, 
is a question the answer to which must have a determining 
influence on the future of the gold standard. Before we 
proceed to this topic, we should pause to consider the influence 
which these marked changes in the value of gold have had in 
shaping public opinion in regard to the merits of that metal 
as a standard. 



Inter- 
national 
Bimetal- 
lism. 



Belative 
Prices 


890 1891 1892 1893 1894189518961897 1838 1899 1900 190119021903 191 


4190 


5 ISO 


B19t 


7 19 


8 19 


}919 


0191 




134 - 




— 




— 





























































































[ 




























, 


is 




" 










1 




























/ 


-X- 













































/ 










































I 




y 










































\ 




/ 










































\ 










126 - 




































\ 


/ 












































\ 


/ 












































\ 


/ 


















































































































































120 - 






















































































































































































































/ 














































/ 












































/ 
















1 19 


N 














































s 
















































\ 














































^ 
















, 


\ 




























\ 
















/ 


























106 - 
104 
102 
100 

98 

96 

94 

92 

90 

88 




\ 
















/ 




























\ 
















/ 












































/ 












































/ 












































/ 












































' 






















































































/ 












































/ 












































/ 












































/ 












































/ 




































N, 








/ 




































\ 








/ 






































\ 






/ 






































\ 












































\ 














































\ 












































^' 
































zm. 












\ 


— 




tl 






















- 



Fig. 10. RELATIVE PRICES OF COJOIODITIES, 1890 TO 1911 

(Average for 1890 to 1899 =100) 

§ 211. The adoption of the single gold standard was vigor- 
ously opposed not only in the United States, but in European 
countries, on the ground that the supply of gold was inade- 



ADOPTION OF GOLD STANDARD 379 

quate to satisfy the needs of all nations. It was long con- 
tended, and is still by many thoughtful persons, that a much 
better monetary system for the world would be one which 
combines both gold and silver. Some countries, like England 
and her colonies, which have long had the gold standard, might 
continue on that basis. Others, like Mexico and China, which 
are accustomed to silver only, might maintain the silver 
standard. The best interests of all would be served, it is 
argued, if the remaining countries, which use both gold and 
silver, could agree upon some scheme of " international 
bimetallism " which would establish a fixed value relation be- 
Lween gold and silver and insure their continued use as the 
standard money materials of the world. 

For a time it seemed as though the fears of bimetallists Triumph 
in reference to the insufficiency of the gold supply were well of Gold 
grounded. Gold prices did, as we have seen, fall with alarm- Standard, 
ing persistency, and the effect of the steady decline on the 
temper of the business community was decidedly unfavorable. 
If the suggested remedy could have been applied in 1873, the 
results might have been generally beneficial. Nothing was 
done, however, notwithstanding repeated international con- 
ferences, and after 1897, when gold prices began to rise again, 
the principal reason for action was removed. At present it is 
the general consensus of opinion that " international bimetal- 
lism," even if economically and politically practicable, is no 
longer needed and that any international agreement that is 
made should have for its object the extension of the gold 
standard to the few countries that are still on silver and paper 
bases, with a view to giving greater stability to foreign ex- 
change relations. In other words, gold has been accepted 
as the standard of value of the world, and the monetary prob- 
lem of contemporary interest to practical business men is how 
to extend this standard to countries which for special reasons 
do not care to make gold coin, even on a limited scale, their 
medium of exchange. 

In the United States the agitation for bimetallism assumed The Free 
a more radical form than in Europe, the demand being made Silyer 
that the country embark alone upon the attempt to maintain S^ ^ o . 
a constant value ratio between gold and silver by throwing 



S80 



UNSETTLED MONETARY PROBLEMS 



Future of 
the Gold 
Standard. 



Influences 
Steadying 
the Value 
of Gold. 



its mints open to the free coinage of the cheaper metal at the 
mint ratio of 16 to 1. This was made the dominant issue 
in the presidential campaign of 1896, when the Republicans 
opposed to the Democratic declaration in favor of the free 
coinage of silver a somewhat vague indorsement of inter- 
national bimetallism. Again in 1900 free coinage was an 
issue, but already the reasons for the agitation had been with- 
drawn and there seems little likelihood of a revival of the 
question, at least in the same form. So fast has history been 
made in this field that what was but yesterday a burning 
political issue is now a question of merely historical interest. 

§ 212. The future of the gold standard hinges upon the 
question whether the value of gold is likely to show a fair 
degree of stability in coming years, and whether any more 
stable standard, which is equally convenient in other respects, 
is attainable. 

As to the first point, present indications are believed to be 
very favorable. The transition to the gold standard has been 
accomplished, or is in a fair way to be accomplished in the 
near future, for the whole commercial world. Under these 
circumstances there is every reason to anticipate only that 
gradual increase in the world's demand for gold that will 
result from the gradual growth of the world's wealth and 
expansion of its exchange transactions. On the side of supply, 
production in the immediate future promises not only to be 
ample, but to be governed more exactly by the normal ex- 
penses of production than it ever has been in the past. Dis- 
coveries of new sources of supply and inventions affecting 
methods of mining and refining have, during the last ten years, 
advanced gold production in many parts of the world to the 
precision of a manufacturing industry. In quartz mining in 
the Rand district in South Africa and in placer mining in 
the low-grade gold-bearing soils, which it is now profitable to 
treat by means of expensive hydraulic appliances, the expense 
of producing gold can be accurately estimated and the output 
can be increased or decreased on a considerable scale as changes 
m the value of the product make either course desirable. 
Thus the normal expenses of production promise to be the 
regulator of the value of gold in the future, as they have been 



THE MULTIPLE STANDARD 381 

of other freely reproducible goods in the past. During the 
last ten years a readjustment has been going on in consequence 
of the discovery of new gold fields and of cheaper methods 
of recovering the precious metal. But unless the discovery 
of other and even cheaper sources of supply intervenes, the 
fall in the value of gold cannot long continue because every 
advance in prices which accompanies it makes gold mining 
more expensive. Materials, tools, machinery, wages and other 
items of expense rise as gold falls. As a result the margin 
at which gold mining continues to be profitable is a progres- 
sively higher one and the production of gold must be checked 
correspondingly. It would be idle to venture to prophesy in 
regard to the future course of the value of gold, but this at 
least may be said: Unless new and cheaper sources of supply 
are discovered, there is every prospect that its value will be 
more stable during the next decade than it has been at any 
period during the last sixty years. 

§ 213. Those who believe that the gold standard will one The 
day be superseded base their faith, not on any alleged ad- Multiple 
vantage of some other commodity standard of value, but upon 
dissatisfaction with all commodity standards. Perfect stability 
of value is certainly unattainable along this line. One remedy 
suggested is the adoption of an immaterial standard, called 
the " multiple standard," whose value may be kept uniform 
by artificial regulation. The plan is somewhat as follows: 
Since the value of the monetary unit is determined by the 
relation between demand and supply, and since paper money 
is the medium of exchange preferred in the more advanced 
countries, let each government take upon itself the regulation 
of its monetary system and substitute fiat for self-regulating 
money. Let a special department of issue and redemption 
be created to adjust the supply of such money to the demand 
for it in such a way that the general level of prices shall be 
kept uniform from month to month and year to year. This 
may be done, it is suggested, by issuing additional legal-tender 
paper notes as prices tend to fall and withdrawing such notes 
— perhaps by the sale of low interest-bearing bonds — as prices 
rise. The measurement of prices might be made by means 
of index numbers in some such way as was described in 



Standard. 



382 UNSETTLED MONETARY PROBLEMS 

Section 209 and the effort would be to keep the index number 
constantly at 100. 

Space will not permit discussion of the possibilities of a 
fiat, multiple-standard monetary system. There is, perhaps, 
no good theoretical reason for asserting that such a sj^stem 
could not be maintained by a country that was politically and 
commercially ready for it. On the other hand, no extended 
argument is necessary to prove that practical business men 
will continue to view the plan as unworkable until the de- 
fects of the gold standard have been so conclusively demon- 
strated that there is a more widespread demand for a differ- 
ent system than has yet developed. 

REFERENCES FOR COLLATERAL READING 

*Clare, A B C of the Foreign Exchanges; *Pierson, Principles of 
Economics, Part II., Chap. III. ; Goschen, Theory of the Foreign Ex- 
changes; * Johnson, Money and Currency; *Laughlin, Principles of 
Money; Walsh, The Measurement of General Exchange Value; ^Taussig, 
Silver Situation in the United States; Principles of Economics, Chaps. 
XVIII.-XXII. ; *'Walker, International Bimetallism; *Sound Currency 
Redhook (published by Committee of the New York Reform Club) ; 
Russell, International Monetary Conferences; * Fisher, The Purchasing 
Power of Money. 



CHAPTER XXII 
THE TARIFF QUESTION 

§ 214. The difference between foreign and domestic trade I'oreign 
is a difference of degree only. It happens that the continent ^ 
of Europe is divided up among more than a dozen different ^j.^^^ 
sovereignties, and this causes trade among its different parts compared, 
to be largely foreign. On the continent of North America, 
on the other hand, it happens that only three sovereignties 
are represented. Of these the United States alone controls 
an area nearly as large as the continent of Europe and pre- 
senting equally striking diversities of soil and climate. Trade 
among different sections of the United States is domestic, 
and yet the same considerations which, for example, cause 
California to produce oranges, lemons and olives for the rest 
of the country, cause Italy to produce the same things for 
the rest of Europe. In both instances trade results from the 
efforts of men to realize the economies connected with a terri- 
torial division of labor, that is, to devote each particular area 
to those products for which it is best adapted, while securing 
from other areas, by means of exchange, their special products 

Although foreign and domestic trade are thus controlled Peculiari- 
at bottom by identical principles, economists are in the habit *^^^°^ 
of singling out foreign trade for special treatment, partly , 
because it is frequently subjected to regulations from which 
domestic trade is exempt, and partly because back of these 
regulations are differences in race, nationality and political 
ideals which play their part in shaping economic conduct. 
One effect of these differences has already been noted, that is, 
the unreadiness of workmen to give up home and country 
for the sake of the higher earnings that may be obtained in 
other places. In consequence of this " immobility of labor," 
differences in wages between different countries persist gen- 
eration after generation and play their part in shaping foreign 

383 



S84 THE TARIFF QUESTION 

trade. Differences in interest rates traceable to the immobility 
of capital, although less marked, are not without their influ- 
ence also. 
Principle The guiding principle which controls foreign trade is 

Controlling g^j^jj^gfj ^p iji the statement that each country produces for 
Trade^^ export those things which it can produce most cheaply, and 
imports in exchange those things which other countries can 
produce most cheaply. In the absence of trade restrictions, 
the capital and labor force of each country tends to be assigned 
to those branches of production for which it has the greatest 
natural or acquired aptitude. The selection is not determined 
absolutely, but by comparative standards. One country may 
have an absolute advantage over other countries for the pro- 
duction of hundreds of different commodities, but its interest 
and wage rates may be so much higher — in consequence of 
these very advantages— than those of the others, that it can 
produce more cheaply than they only the score or more of 
these commodities in which its superiority is most pronounced. 
Other countries must find employment for their capital and 
labor also and by submitting to lower interest and wage rates 
will be able to produce some commodities more cheaply, even 
though with greater expenditure of time and effort, than the 
superior country. An illustration of the way in which a 
country may produce for export commodities which it cannot 
produce as easily as the importing country is afforded by the 
trade between the United States and Germany. The United 
States imports from Germany cutlery, certain kinds of cotton 
goods and several other commodities which it could produce 
with less effort than their production in that country costs. 
Such trade is, nevertheless, mutually advantageous, because 
on the side of Germany it permits a utilization of capital and 
labor which yields larger returns in wheat, salt meat and 
the other goods that are imported from the United States tlian 
could be secured by the direct production of those things, 
while on the side of the United States it enables the country 
to secure the commodities imported in exchange for wheat, salt 
meat, etc., with less expenditure of effort than would be in- 
volved in their production. The situation of a country is 
not unlike that of an individual. It has a limited force of 



ADVANTAGES OF FREE TRADE 385 

labor and capital to employ and secures the largest return 
by concentrating these where they are most effective. Just 
as it does not pay a successful lawyer to do his own typewrit- 
ing, no matter how expert a typewriter he may be, so it does 
not pay a country to do many things it could do more easily 
than its neighbors, because there are other things it can do 
still more easily and that, therefore, pay even better. 

§ 215. As already stated, most countries subject their for- The 
eign trade to restrictions from which their domestic trade is Policy of 
exempt. These restrictions usually take the form of a tariff Protection, 
or taxes on goods as they enter or leave the country. "When 
a tariff has for its principal purpose the protection of home 
producers from foreign competition in the home market it is 
called a " protective tariff " and the resulting policy is desig- 
nated " protection." Before attempting to discuss the argu- 
ments in favor of such a policy we may profitably recall the 
advantages that may be claimed for free trade. 

As pointed out in the preceding section, the chief purpose The 

of foreign, as of domestic, trade is to render possible the Advantages 

division of labor and the economies resulting from it. That ° ^^^ 

. Trade, 
this purpose will be most fully realized in connection with 

domestic trade if free exchange is permitted, is generally con- 
ceded. Under such circumstances each individual will tend to 
devote his labor and capital to that pursuit for which he is 
best fitted and will obtain from other specialists, through 
exchange, the varied products he requires. This process en- 
ables each to benefit indirectly from the special capacities 
of every other and leads to a maximum production for the 
country as a whole. But the same reasons that make free 
exchange within a country advantageous may be urged in 
favor of free trade among countries. Political boundaries do 
not alter the essential facts that trade is at bottom an ex- 
change of goods for goods in which both parties are gainers, 
and that the freer the conditions of exchange the more highly 
will the division of labor be developed. Differences in the 
productive capacities of different countries fit some to produce 
some things, others, others. If free trade be permitted, each 
will tend to produce only those things for which it is best 
adapted and to rely upon other countries for the other things 



for 
Protection 



386 THE TARIFF QUESTION 

desired and in the production of which the others have a 
relative advantage. The consequence will be a larger joint 
produce and a larger share of wealth for each country than 
it could secure if compelled to produce for itself all of the 
things that its inhabitants require. If restrictions on trade 
are to be approved, it must be because they accomplish results 
that compensate a country for the undoubted losses which they 
entail. 

Arguments § 216. The principal economic arguments in favor of pro- 
tection may be distinguished as the infant-industry argument, 
the home-market argument, the wages argument and the 
vested-interests argument. Of these, the first two were urged 
in the United States as reasons for establishing a protective 
policy ; the last are advanced as reasons for adhering to it 
now that it is established. All merit careful considera- 
tion. 

The Infant- The infant-industry argument is presented in both a special 

m us ry ^^^ ^ general form. As it applies to special industries it 

Argument: . . „ 

Special ^^^^^^ °^ ^ recognition of the risks and dirfieulties which attend 

Form, the domestication of new branches of production. In the 

successful prosecution of any industry three factors cooper- 
ate: the requisite natural resources, skilled and unskilled 
workmen of different grades, and the appropriate forms of 
capital. As regards each one of these, the country which has 
practised an industry has a marked advantage over the 
country which has not. The natural resources of the latter 
may be superior, but they are undeveloped; its labor force 
may be ample and adaptable, but it is untrained ; its people 
may be competent to use tools and machines, but they have 
no familiarity with the special forms of capital needed. Under 
such circumstances the encouragement of a protective tariff 
may suffice to induce investors to establish the new industry 
when without it they would not venture on such a step. After 
a few years, if the industry to be domesticated has been 
wisely chosen, the initial difficulties will have been surmounted 
and the protective duty may be withdrawn without detriment 
to the now vigorous infant. Advocates of such a policy recog- 
nize quite clearly that resort to protection entails a burden 
on consumers. They justify the temporary loss on the ground 



HOME-MARKET ARGUMENT 387 

that the establishment of the new industry on a permanent 
footing will afford in the end a more than compensating 
gain. 

The infant-industry argument in its general form recognizes General 
that countries must usually pass through different stages of Form, 
industrial development and advocates protection as a means 
of accelerating progress during periods of transition from 
one stage to another. The best statement of this argument 
is that given by Friedrich List in his Das nationale System 
der politischen Oelwnomie, published in 1841. The conclu- 
sions at which List arrived were based on the contrast between 
an industrial country like England and an agricultural coun- 
try, such as Germany was at the time he wrote. In his opinion 
England 's success as a manufacturing country was due chiefly 
to the development of certain industrial qualities among her 
people. Germany, he thought, might develop the same quali- 
ties among Germans by means of a protective policy which 
would force them to manufacture for themselves. Through 
protection the natural resources of the country necessary to 
the development of manufacturing Avould also be opened to 
exploitation. From this point of view protection is a tem- 
porary means by which an agricultural country may transform 
itself into an industrial country. After the transformation is 
completed the new manufacturing industries, or at least a 
great many of them, will be quite capable of holding their 
own in competition with the manufacturing industries of other 
countries and protection will no longer be required. Forcible 
as is this infant-industry argument for a new country striving 
to pass from the extractive industry stage to the stage of 
diversified industries, it can hardly be claimed that it has 
much application to the United States to-day. Its protected 
infants have long since growTi into vigorous youths — at any 
rate in all those cases in which the natural conditions of the 
country were at all adapted to the new industry to be domes- 
ticated. 

The home-market argument, as advanced by Henry Clay, TheHome- 
the " father of the American System," was designed to recon- "is^i'ket 
cile the interests of the agricultural South and West with -^^^i^^^^*- 
those of the manufacturing North. It rests upon the propo- 



THE TARIFF QUESTION 



Origin of 
Present 
Tariff 
System. 



sition that the prosperity of the American farmer depends 
upon a regular and constant market for his products, and 
that such a market is to be obtained only by building up 
manufacturing centers within the country. When this argu- 
ment was first used, the experience of the years from 1816 
to 1820 was cited to prove that the foreign market is not 
to be depended upon and farmers were exhorted to unite with 
manufacturers to establish a system which should bind differ- 
ent sections of the country together by furthering the interests 
of all. To the greater stability claimed for the home market 
later analysis adds another merit. The home market calls not 
only for the staple products which will bear ocean transporta- 
tion, but also for all kinds of perishable goods. Substituting it 
for the foreign market renders possible diversified farming and 
enables cultivators to substitute for exhausting, one-crop sys- 
tems of agriculture, rotations of crops which serve to preserve 
and perpetuate the fertile properties of the soil. This advan- 
tage is believed by protectionists to outweigh the admitted 
losses incidental to the protective policy and to insure in 
the long run a greater degree of prosperity than will result 
from the free play of economic forces. This second argument 
also, from the point of view of the United States, is less 
cogent now than when it was first advanced. Improvements 
in transportation facilities have largely obliterated the differ- 
ences between the home and the foreign market, and more 
settled trade policies on the part of other countries have made 
the foreign market more dependable than it used to be. It 
is not, therefore, of these first two arguments that most is 
now heard, but of the two still to be considered. 

§ 217. The present stage in the development of the pro- 
tective policy of the United States has been the outgrowth 
of the Civil War. That struggle involved the withdrawal 
from Congress of the representatives of the Southern States, 
who had been the most active opponents of protection. Under 
the guidance of representatives from the North successive 
tariffs were passed carrying the policy to the most extreme 
lengths which the country had known. The change in the 
level of duties caused by the War is indicated by the fact 
that whereas under the Act of 1857 the highest duties im- 



WAGES ARGUMENT 389 

posed were 24 per cent ad valorem* under the Act of 1864 the 
average rate of duty on dutiable articles was over 47 per cent. 
During the first fifteen years after the close of the war the 
attention of Congress was occupied by questions of reconstruc- 
tion, the resumption of specie payments, etc., and no change 
of importance was made in the tariff except that it became 
increasingly protective as the internal revenue duties applying 
to American industries which had partly offset the high tariffs 
applying to the products of foreign industries were one by 
one removed. When attention was again concentrated upon 
the tariff question the protectionists were still in control of 
Congress. The tariffs of 1883 and 1890 were both modifica- 
tions in the direction of higher duties. The Act of 1894 
was a measure aiming at revision downward, but was so 
garbled in its passage through Congress that the tariff-reform 
president of the period, Mr. Cleveland, allowed it to become a 
law without his signature. The victory of the Republicans 
in 1896, although based on the free silver rather than the 
tariff issue, involved as an incident a return to a highly pro- 
tective policy. In fact the Dingley Act of 1897 marks the 
extreme limit to which that policy has yet been carried in the 
United States. Increasing complaints of the high cost of 
living forced the Republicans to undertake another revision 
of the tariff in 1909. The Payne-Aldrich tariff that resulted 
was so little satisfactory to the country that the Republicans 
lost their control of the Lower House of Congress in the follow- 
ing year. The election of a democratic president and of a 
democratic majority in both houses that has just occurred 
(November, 1912) makes it certain that the next tariff leg- 
islation will be another revision downward. 

During this last period the M^ages argument and the vested- The Wages 
interests argument have played an important role. Before Argument, 
protection became the established policy of the country, one 
of the reasons urged in its favor was that, since wages were 
higher in the United States than abroad, some special en- 
couragement was necessary to the introduction of new in- 

*Ad valorem duties, or duties based on value, are to be contrasted 
with specific duties based on quantity (e. g., so much a pound or a 
bushel ) . 



390 THE TARIFF QUESTION 

dustries to enable employers to compete with the low-wage 
labor of Europe. After protection became a settled fact, by 
an interesting inversion, it began to be given credit for the 
high wages of American labor. The wages argument runs as 
follows: In protected industries higher wages are paid in the 
United States than in similar industries abroad. Protection, 
therefore, causes high wages, and its withdrawal would tend 
to pauperize American labor. This overlooks certain im- 
portant considerations. First, equally high wages are paid 
in unprotected as in protected industries, and the former, 
which in the United States include farming, mining, trans- 
portation and many branches of manufacturing, vastly ex- 
ceed the latter in importance and magnitude. Second, em- 
ployers, whether protected or unprotected, desire to secure 
their labor as cheaply as they can and there is nothing in a 
protective tariff which forces them to pay higher wages than 
are current in the community in which the protected industries 
are located. In other words, employers in protected indus- 
tries pay the wages they must to get the labor they require, 
and these depend not upon the protective tariff, but upon 
general industrial conditions. Third, it is not true that high 
wages and protection always go together. For example, 
wages in protectionist Germany are lower than in free-trade 
England. For these reasons the wages argument, although 
still effective for campaign purposes, has never enjoyed much 
repute among trained economists. 
The Vested- ^{^q }jy ^^^q ^,j^|^ ^^q wages argument, with its appeal to 

^ ^ the " labor vote," is urged the vested-interests argument, 

Argument. . o j 

which appeals especially to conservative owners of property. 

This emphasizes the loss of capital that must result if the 

protection that certain industries enjoy should be withdrawn 

and these industries should be exposed to the full force of 

foreign competition. That some capital would be lost in the 

process of readjustment to free trade conditions cannot be 

denied. It would seem more rational, however, to advance 

this as a reason for making the transition from protection to 

free trade gradual rather than as a reason for the indefinite 

continuance of protection — unless convincing independent 

arguments can be given for that policy. 



PAYNE-ALDRICH TARIFF 391 

Quite as influential as the economic arguments in favor of The 
protection that have been reviewed, has been the ambition of Political 
American statesmen to cement the bonds which unite different Argument. 
sections of the country by means of a tariff which should 
make them mutually dependent and at the same time inde- 
pendent of Europe. This was to be accomplished by develop- 
ing the division of labor to the highest point within the 
country, without giving any encouragement to the inter- 
national division of labor upon which foreign trade rests. 
Horace Greeley, the influential editor of the New York 
Tribune, expressed this view of protection with his usual 
clearness in the following declaration : "If I had my way 
I would put a duty of $100 a ton on pig iron, and a propor- 
tionate duty on everything else that can be produced in 
America. The result would be that our people would be 
obliged to supply their own wants, manufactures would spring 
up, competition would finally reduce prices and we would live 
wholly within ourselves." From this point of view the chief 
function of protection is to serve as a Chinese wall to preserve 
the United States from the " contamination " of foreign in- 
fluences. Uneconomic and even irrational as such an ideal 
must appear, it cannot be doubted that it makes a strong 
appeal to many patriotic citizens. But for it tariff con- 
troversies in the United States would have had little of the 
moral earnestness which has characterized them whenever 
protection has been the issue. 

§ 218. A brief description of the tariff of 1909, still in The Payne- 
force as this book goes to press (July, 1913), will serve to Aidrich 

Tariff 
emphasize one argument against protection — that is, its com- 
plexity. The act in which this tariff is embodied covers 121 
octavo pages and enumerates upwards of 3500 different articles 
of which more than 350 are admitted into the country free 
of duty and the remainder are subject to taxation. There 
are fourteen different schedules (lettered " A " to " N ") 
under which dutiable articles are classified. Schedule " K," 
embracing '* wool and manufactures of wool," is fairly typ- 
ical. In it wool is divided into three elaborately distinguished 
classes to each of which a special duty is applied. Wools 
of classes one and two are taxed eleven and twelve cents a 



392 



THE TARIFF QUESTION 



Burden of 

High 

Duties. 



pound respectively. Wool of class three, worth less than 
twelve cents a pound, is taxed four cents and, worth more, 
seven cents a pound. The rate of taxation on the cheaper 
grades, worth from six cents to twenty-one cents a pound, is 
thus from 33^ per cent to 66| per cent. These duties 
are intended, of course, to protect farmers and ranchers 
engaged in the production of wool. To protect manufacturers 
of woolen goods it is necessary to compensate them for the 
higher prices they have to pay for protected wool as well as 
to protect them against foreign manufacturers. The tariff 
accomplishes this object by subjecting woolen goods to both 
a specific and an ad valorem duty. For example, woolen yarn, 
if made of wool worth less than thirty cents a pound, pays 
a specific duty on each pound equal to two and one-half 
times, and, if of wool worth more, to three and one-half times, 
the per pound duty on wool of the first class, and in addition 
an ad valorem duty of 35 per cent for the cheaper and 40 
per cent for the dearer grade. Similar mixed duties apply 
to woolen cloths of all kinds, with the consequence that the 
tax on consumers of imported woolen goods is very heavy. 
According to the returns of the custom office for the year 1911 
the average rate of duty on wool imported during that year 
was 42 per cent and the average rate on manufactures of wool 
88 per cent. The rates on other textiles, the raw materials 
of which do not require protection, are of course less extreme, 
but the returns indicate that the average rates on imported 
cotton and silk goods during the same year were 56 and 53 
per cent respectively. 

The above duties on textile goods are among the highest 
protective duties on the list, but the general average on all 
dutiable articles was 41 per cent in the year referred to, so 
the duties cited give no exaggerated picture of the burden 
of taxation which results from the protective system. Nor 
is the burden adequately represented by the statement that 
consumers of imported commodities which compete with Amer- 
ican products must pay, in addition to the freight charges, 
on the average 41 per cent more than such products are worth 
abroad. Much heavier is the burden which results from the 
exclusion of foreign products and the enhancement of the 



TARIFF MAKING 393 

prices of American goods. The higher prices that consumers 
must pay for protected goods in order that they may be 
produced at home afford no revenue to the government, al- 
though they add so largely to the expense of living in the 
United States. 

Space will not permit a description of other features of the The Mak- 

tariff. The complexity of the wool schedule is matched in ^^sota 

Tariff. 
the schedules applying to the metals, to wood and manu- 
factures of wood, to silk goods, etc. To master fully any 
one of these schedules and determine what rates of duty 
would afford adequate protection without unduly burdening 
consumers would require months of study of the industries 
affected, both at home and abroad. To master fully all of 
them, with the three thousand odd different articles to which 
they refer is a task beyond human capacity. Notwithstanding 
this fact, it was not until the passage of the tariff act now 
in force that Congress took the first step toward scientific 
tariff drafting in the creation of the late Tariff Board. 
That tariff like its predecessors was framed on the basis 
chiefly of the testimony of interested persons who presented 
themselves before the Ways and Means Committee of the 
House or the Finance Committee of the Senate to declare the 
amount of protection which their businesses required. The 
tariff bill so prepared is submitted to a running fire of criti- 
cism and amendment in both Houses, and when finally passed 
is such a hodge-podge of compromises that even the most 
earnest advocates of protection are usually forced to express 
regret that a better measure could not be secured. The com- 
plexity of a protective tariff, with its thousands of items 
and its confusing medley of ad valorem and specific duties, 
applying often to the same commodities, is in striking contrast 
with a tariff for revenue only like that of the United King- 
dom.* Such a tariff contains but a few items, and since it 
serves no special interest, except that of the government, may 
be drawn up in a simple and business-like way. Its financial 

* In the present tariflf of the United Kingdom import duties are 
imposed on cocoa, coflFee, chicory, dried fruit, tea, tobacco, wine, beer, 
spirits and sugar. To prevent these duties from being in the least 
degree protective, the production in the United Kingdom of the articles 
taxed is subjected to exactly equivalent internal revenue duties. 



394 



THE TARIFF QUESTION 



Weakness 
of Argu- 
ments for 
Protection 
for United 
States 
To-day. 



results can be foretold with a high degree of precision, and 
its capacity to yield revenue is as great as that of the more 
burdensome protective tariff, since whether many or few the 
duties imposed must draw the revenue they afford from the 
pockets of the same people. 

§ 219. Arguments in favor of protection should be care- 
fully weighed against the general argument in favor of free 
trade, not as abstract propositions, but with reference to the 
concrete circumstances of each particular country. The result 
of such a procedure applied to the present industrial situation 
of the United States is, in the opinion of the author, decidedly 
unfavorable to the claims of protectionists. National economic 
independence, the first and perhaps the strongest reason urged 
in support of protection, has long since been achieved and 
would not be endangered in the slightest degree by a change 
of trade policy. The infant-industry argument in its special 
form is now applicable to but few American industries, while 
in its general form it has certainly been outgrown by a country 
whose manufactured products already compete successfully 
for a share of the foreign market. The home-market argument 
has little application to the present situation, when such a 
large proportion of the staple products of the country seek 
the foreign consumer in defiance of the tariff and when its 
consequence is too often tariff retaliation on the part of other 
countries much more unsettling in its effects than fluctuations 
in foreign demand, independent of hostile tariffs, could pos- 
sibly be. The wages argument inverts the true relation be- 
tween protection and high wages. High wages are due, as 
explained in a previous chapter, to the high productiveness 
of labor, due, in turn, to the superior natural resources of a 
country, its abundant and efficient equipment of capital goods, 
and the capacity of its enterprisers and wage-earners. It is 
because of high wages that protection is necessary to the 
maintenance of certain industries in the United States. With- 
out it goods now produced in the country would be imported 
and paid for by increased production in those lines of in- 
dustry which need no protection. Since labor and capital 
are more productive in unprotected than in protected in- 
dustries, the withdrawal of protection and the concentration 



OBSTACLES TO CHANGE 395 

of labor and capital in the industries for which the country 
is best fitted might be expected, time being allowed for the 
necessary readjustment, not to lower wages, but to raise them. 
Certainly more wealth would be produced under the new 
arrangement, and labor's chance of getting a larger share 
would seem as good as that of any other factor in production. 
Thus instead of raising wages, protection serves on the whole 
to lower them and is itself necessary because wages were 
already high before it was introduced. Finally, the vested- 
interests argument is of weight as a plea against a too hasty 
reduction of duties upon which important industries have 
come to depend, but cannot justify the indefinite continuance 
of such duties if they no longer serve the best interests of the 
whole country. The case for protection thus appears on every 
count to be decidedly weak in comparison with the case for 
free trade. If the issue were to be decided solely on grounds 
of economic reasoning, it is believed that the policy of pro- 
tection would be quickly abandoned. 

The present strength of protection in the United States Obstacles 
rests, however, less on reasoning than on sentiment and ex- to Change, 
perience. The all-important fact that cannot be argued out 
of the mind of the practical business man is that protection 
has been the policy of the country during a period of remark- 
able industrial prosperity. That this prosperity has been due 
to other causes he will not believe, or at any rate he prefers 
to ' ' let well enough alone, ' ' and to refrain from disturbing a 
system which may have had something to do with the country 's 
undoubted progress. This general presumption in favor of 
protection is reinforced by the solemn declarations of business 
men, in industries which have grown up under the fostering 
care of the tariff, that without its aid they will be ruined. 
Harrowing pictures are drawn of idle mills, workmen tramp- 
ing the streets in the vain search for employment, and the 
other symptoms of decaying industry, and public opinion is 
made to believe that the tariff is still necessary to national 
prosperity. Only recently has due attention been given to 
the other side of the picture, that is, the diversion of capital 
and labor from industries for which the country is better 
fitted, which the tariff causes, and the stimulating effect on 



396 



THE TARIFF QUESTION 



Present 
Status of 
Tarifif 
Question in 
the United 
States. 



Protection 
V. Con- 
servation. 



Interest of 
Producers 
in Free 
Trade. 



these industries which the removal of the tariff wall would 
inevitably have. 

§ 220. According to the general argument for free trade, 
it is the consuming public, which has to pay higher prices for 
protected goods, that is most injured by protection. But the 
consuming public constitutes no definite class and its organi- 
zation as a party of opposition is highly improbable. At 
certain points, however, the protective tariff of the United 
States is already subject to vigorous attack by particular 
consumers. One of these is where it acts as a shield for the 
combinations of manufacturers, or trusts, discussed in Chap- 
ter XXV. The new tariff now (July, 1913) engaging the 
attention of Congress will certainly include lowered duties on 
trust-made goods. 

Another aspect of protection that is beginning to receive 
merited condemnation is its tendency to hasten the destruction 
of limited natural resources. In the United States important 
branches of mining, such as coal and iron, have been protected, 
in utter disregard of the fact that this forces the country to 
use up its own limited supplies of these indispensable materials 
when it might, in the absence of the tariff, secure at least a 
part of what it needs from neighboring countries. Protection 
is also extended to the lumber industry, although it is notorious 
that the destruction of American forests is progressing at a 
rate that threatens grave injury even to the present genera- 
tion. It seems too clear for argument that wise national policy 
demands the conservation rather than the destruction of 
limited natural resources such as those mentioned. This phase 
of the subject is receiving its due share of attention in the 
current debates in Congress and these most objectionable pro- 
tective duties will certainly not reappear in the reform tariff 
of 1913. 

Somewhat less direct than the burden protection imposes 
on consumers is the injury which it does to producers for 
the foreign market. They suffer in both a general and a 
special way. In general, protection, by curtailing imports, 
curtails the foreign demand for native products, or exports. 
This must be the case, for in the long run imports and exports 
pay for each other. A country which will not take the 



RETALIATORY TARIFFS 397 

products of other countries cannot sell to them. For a short 
time they may pay in specie for what they cannot pay in 
goods, but as pointed out in the last chapter (Section 205), 
the exportation of gold must soon be checked automatically 
by changes in interest rates and price. levels. Thus the policy 
of excluding foreign goods from the home market in order 
that home industries may develop to satisfy its needs, is, from 
the point of view of producers for export, a policy of re- 
pression rather than of protection. To the same extent that 
the home market is wrested from foreigners and given to 
protected home producers, the foreign market is wrested from 
unprotected home producers. Producers for export have good 
reason for complaining that discrimination in favor of in- 
dustries which need protection is discrimination against them. 
Until recently, the industries in the United States which pro- 
duced for export have been the great extractive industries. 
Now that manufacturers also are beginning to look to the 
foreign market for their customers, this adverse side of pro- 
tection, to which they have been conveniently blind in the 
past, is likely to receive its proper share of consideration. 

The special grievance which producers for export urge Retaliatory 
against protection is that it antagonizes foreign governments Tariffs, 
and leads to retaliatory measures. Protection is a game at 
which two can play and which loses much of its interest 
when participated in too widely. The United States has al- 
ready been the object of tariff retaliation on the part of 
Germany and Russia, and if the temper evinced by the foreign 
press is any criterion, its troubles from this source are certain 
to increase unless its protective duties are made more moderate. 

In addition to these economic considerations favorable to Tariff 

tariff reform, there are equally cogent political considerations. Cause of 

The protective tariff of the United States has been the prin- _ 

^ ^ . Corruption. 

cipal source of that pernicious alliance between business and 
politics which has threatened the very life of our democratic in- 
stitutions. So long as the government protects special in- 
dustries it is inevitable that those who are financially in- 
terested in these industries should attempt to frame party 
platforms, select candidates and control legislation for their 
own private benefit. As this simple truth comes to be appre- 



398 THE TARIFF QUESTION 

ciated by all classes of citizens, many influential persons who 
have remained indifferent to the economic aspects of the tariff 
question are certain to become ardent tariff reformers. 
Present The present outlook in the United States for tariff reform 

Outlook. jj^ ^j^g direction of a tariff for revenue only is exceedingly 
bright. It must not be overlooked, however, that the success 
of the tariff reform party in 1912 was due not to a sudden 
conversion of a majority of the people to a belief in free trade, 
but to a division of the protectionists into hostile camps. Re- 
publicans and Progressives. Changes in the tariff in the 
direction of lower duties are certain to encounter strenuous 
opposition on the part of the special interests affected. Con- 
cern over this issue may cause the believers in protection to 
forget their differences and may enable them again to tri- 
umph at the polls. Though the immediate future of tariff 
reform is thus uncertain the more remote prospect already 
stands out clearly. The general trend for a country in the 
industrial position of the United States will almost certainly 
be away from, rather than toward, trade restrictions. Pro- 
tection, as the term implies, is a policy for the weak rather 
than for the strong. As the United States becomes conscious 
of its industrial strength it is likely to tear down its pro- 
tective barriers and enter the field of free international com- 
petition in the same confident spirit as did the United Kingdom 
half a century ago. 

REFERENCES FOR COLLATERAL READING 

*Bastahle, The Theory of International Trade; Faiocett, Free Trade 
and Protection; Sumner, Lectures on the History of Protectionism in 
the United States; *Patten, The Economic Basis of Protection; Thomp- 
son, Protection of Home Industry; *Taussig, Principles of Economics, 
Chaps. XXXIV.-XXXVII.; Tariff History of the United States, and 
• State Papers and Speeches on the Tariff; Stanwood, American Tariff 
Controversies in the Nineteenth Century. 



CHAPTER XXIII 
LEGAL AND NATURAL MONOPOLIES 

§ 221. As explained in Chapter XIII. the essence of monop- Importance 
oly is such control over the supply of an economic good as of the 
will enable the monopolist to regulate its price. Monopolists "^"Po^y 
have it in their power, in greater or less degree, to compel the 
public to pay regularly and continuously for the commodities 
they control higher prices than are needed to cover the ex- 
penses of their production, including a fair wages-of-manage- 
ment. This power is not unlike the power to tax exercised by 
the state itself. By its means the favored few who control 
monopolistic enterprises derive monopoly profits at the ex- 
pense of the many. The magnitude of these profits, which 
under a system of free, all-sided competition would be diffused 
throughout the community in the form of cheaper commodi- 
ties, is one circumstance that lends an interest to the monopoly 
problem. Another and equally important circumstance is the 
manifest injustice involved in permitting a few persons to 
enjoy incomes from which the many are debarred. For these 
and other reasons the monopoly problem is one of the most 
important practical questions with which economics has to 
deal. In the following sections the principal types of monopo- 
lies that are found in the United States, the grounds on which 
they rest and the efforts that have been made to regulate 
and control them, are considered. Legal monopolies, as the 
simplest type, first merit attention. 

§ 222. Legal monopolies, as already stated, may be either Public 
public or private. Public legal monopolies have been estab- l-e&al 
lished for a variety of reasons. In Norway, moral considera- °^^^° ^®^* 
tions have led the government to convert the liquor business 
into a public legal monopoly. The tobacco monopoly of France 
and the salt monopoly of Saxony are conducted for revenue. 
In Prussia the state has taken charge of the railway business, 

399 



Post-office. 



400 LEGAL AND NATURAL MONOPOLIES 

partly for revenue, but chiefly to insure reasonable and uni- 
form rates to all shippers and ready control of transportation 
facilities in time of war or other public emergency. The chief 
public legal monopoly in the United States, the post-office, 
was undertaken with a view to facilitating and cheapening 
communication among different sections of the country, and 
these objects have always been made more prominent than 
considerations of revenue. As this enumeration suggests, the 
most common reasons for advocating and defending public 
legal monopolies are that the businesses under consideration 
require special regulation for the protection of public morals, 
or that they are natural monopolies in which the public has a 
vital interest and that that interest will be better cared for 
through public ownership and operation than through private 
ownership, even under public regulation. 
Merits j)f The United States Post-office is a good example of a public 

legal monopoly which renders more efficient service than a 
private business organized for profit could possibly do. The 
two aspects in which its policy differs strikingly from that of 
businesses organized for private ends are that it undertakes, 
regardless of cost, to bring the mails within the easy reach of 
every inhabitant of the country, and that its charge for carry- 
ing mail matter is the same to all its patrons and invariable, 
irrespective of the distance within the country to be traversed. 
The educational and commercial value of these departures 
from ordinary business policy could not easily be exaggerated. 
Even if it could be proved that certain services, such as carry- 
ing the mails between the large centers of population, could be 
performed more cheaply if the business were in private hands, 
the advantage would still lie, in the opinion of most thoughtful 
persons, with the public monopoly. So general, in fact, is the 
approval of the Post-office in the United States that its success 
is commonly made the point of departure for arguments in 
favor of the public ownership and operation of a telegraph 
monopoly, a telephone monopoly and even a railroad monopoly. 
Opponents of government ownership and operation of these 
businesses, on their side, rarely take exception to the state- 
ment that the post-office has worked admirably, but confine 
themselves to pointing out the respects in which the telegraph, 



PRIVATE LEGAL MONOPOLIES 401 

telephone and railway businesses differ from that of carrying 
the mails, and concluding that the argument from similarity 
is fallacious. The arguments for and against the policy of 
making such businesses public legal monopolies are considered 
in the next chapter. 

§ 223. The development of private legal monopolies pre- Private 
sents one of the most interesting chapters in the history of ^^S^^ 
English law. Eeference has already been made to the preva- . 
lence of such monopolies in the days of Elizabeth and the united 
first Stuarts (Section 7). In 1602 in the case of Darcy v. Kingdom. 
Allen, an English court declared a patent granting the exclu- 
sive right to manufacture playing cards for a period of twenty- 
one years unlawful. The Court held that, " All trades, as 
well mechanical as others, which prevent idleness (the bane 
of the Commonwealth) and exercise men and youth in labor 
for the maintenance of themselves and their families, and for 
the increase in their substance to serve the Queen when occa- 
sion shall require, are profitable for the Commonwealth ; and 
therefore the grant to the plaintiff is against the common law 
and the benefit and the liberty of the subject." Notwith- 
standing this decision grants of monopolies continued to be 
made, and this led Parliament to intervene with the compre- 
hensive Statute of Monopolies in 1624, which provided : ' ' That 
all monopolies, and all commissions, grants, licenses, charters, 
letters patent, heretofore made or granted or benefits to be 
made or granted to any person or persons, bodies politic or 
corporate whatsoever, of or for the sole buying, selling, making 
or using of anything within this realm, or the dominion of 
Wales, or of any other monopolies . . . are altogether con- 
trary to the laws of this realm, and so are and shall be utterly 
void and of none effect and in no wise to be put in use or 
execution." Exceptions were made of patents for new in- 
dustries or inventions, which might be granted for twenty-one 
years, and of patents for new processes, which were limited to 
fourteen years. The monopolies of foreign trading companies 
were also exempted from the Act, as were the businesses of 
printing, of manufacturing saltpetre, gunpowder, ordnance 
and shot, and of alum mining. By later acts all of these ex- 
ceptions were removed, except those in favor of patents for 



402 LEGAL AND NATURAL MONOPOLIES 

new inventions and copyrights for literary and artistic pro- 
ductions. 
In the When the Constitution of the United States was adopted, 

United ^-^e doctrine which had become firmly established in England 
States. ^j^^^ monopolies, in the sense of exclusive grants, are ab- 

horrent to the common law, was accepted as a fundamental 
principle. Congress was given power * to " promote the prog- 
ress of science and useful arts by securing, for limited times, 
to authors and inventors exclusive rights to their respective 
writings and discoveries, ' ' but it has no power to grant monop- 
olies for other purposes. Under our system of government 
the states have all the powers of which they are not expressly 
deprived by the state or federal constitutions or which are 
not conferred upon the Federal Government. Few of the 
state constitutions contain express provisions in reference to 
the grant of monopolies, but the hostility to such grants is so 
widespread that in practice exclusive charters have been given 
only to the so-called public service corporations, whose rights 
to the use of the public streets for their mains, wires or tracks 
could not, without serious inconvenience, be given at the same 
time to other companies. In consequence such private legal 
monopolies as have existed in the United States have been 
based on federal patents, or copyrights, or on state charters, 
in the nature of special franchises, obtained from state legis- 
latures or their agents, municipal councils. 
The Patent g 224. Under the patent law now in force in the United 
ys em. States, " any person, native or foreign, who has invented or 
discovered any new and useful art, machine, manufacture or 
composition of matter, or any new and useful improvement 
thereof, not known or used in this country, and not patented 
or described in any publication in this or any foreign country, 
before his invention or discovery thereof, and not in public 
use or on sale for more than two years prior to his application, 
unless the same is proved to have been abandoned, may upon 
payment of the fees required by law and other due proceed- 
ings had, obtain a patent therefor." The Patent Office is a 
branch of the Department of the Interior. It employs over a 
hundred trained examiners, whose business it is to study the 
* Article I., Section VIII., of the Federal Constitution. 



./ 



QUESTION OF PATENTS 403 

specifications submitted and satisfy themselves that the inven- , 
tion or discovery for which a patent is sought falls within the ^ 
requirements of the law. A patent gives to the inventor the 
sole right to manufacture and sell his invention for seventeen 
years, unless it has been previously patented abroad, when the 
United States patent expires with that granted by the foreign 
country. In Great Britain the life of a patent is shorter, 
being only fourteen years, but under certain conditions it 
may be renewed for seven or even fourteen years longer, so 
the practical difference between the two countries is not 
great. 

Three different arguments are advanced in favor of grant- Arguments 
ing patents. The most familiar is that they foster invention for and 
and discovery by insuring to the inventor adequate reward 
for his trouble. Another common argument is that they in- 
duce inventors to make their discoveries public. The third 
argument, which applies to the more complex inventions of 
recent years, is that but for the protection which a patent ' 
affords, capitalists would be unwilling to risk their means in 
the development of new processes. There is doubtless reason in 
each one of these contentions and together they are usually 
accepted as sufficient justification for some kind of a patent 
policy. The present patent system of the United States is, 
however, citicised on several grounds: (1) Some people deny 
that men who have a genius for invention and discovery re- ■/ 
quire any special inducement to follow their natural bent. 
(2) Others point out that in practice those who reap the 
rewards of monopoly under our patent laws are more often 
business men and corporations, who acquire control of patents 
and turn them to commercial account, than the inventors 
themselves. (3) It is urged that important inventions and 
discoveries are the joint products of many minds and that to 
reward unduly the lucky individual who gets first to the patent 
office is to disregard the services of other investigators. (4) It 
is maintained that many of the patents taken out are sup- 
pressed by those who have vested interests to protect and that 
in consequence, instead of promoting progress, our patent law 
actually retards it. (5) The fact that the present rapid prog- 
ress in methods of production renders most processes and 



40i 



LEGAL AND NATURAL MONOPOLIES 



methods obsolete before they have been in use seventeen years 
is emphasized, and it is asserted that for this reason improved 
processes are usually of little value to the public when the 
patents on them expire. 
Discussion In answer to the first of these objections it may be asserted 
^^ that while genius needs, perhaps, no incentive to follow its 

Arguments. ^^^^^.^^ ^^^^^ ^q^^^^ ^joes, and that the great majority of 
inventions and discoveries have been made not as strokes of 
genius, but by laborious study and experiment. Under these 
circumstances it can hardly be conceded that inventors and 
discoverers are not influenced like other people by the expecta- 
tion of financial return. To the second point it may be an- 
swered that in many cases making an invention commercially 
successful is as important a service as making the invention. 
For example, it would be difficult to decide in connection with 
the invention of the steam engine whether Watt or his business 
partner, Boulton, deserved the more credit for the ultimate 
result. But for Boulton, Watt would almost certainly have 
died a broken-hearted " visionary " and his experiments with 
steam be remembered only by antiquarians. Nor is it true 
that any large proportion of inventors fail to get some return 
for their inventions when these prove to be commercially suc- 
cessful. They are apt to be men who are carried away by one 
success and who squander all they receive from one invention 
in the vain effort to impress upon the public the value of 
others. A patent law which would make all successful in- 
ventors die rich would need to modify human nature. The 
third criticism overlooks the real justification of a patent 
policy. No scheme could be devised that would reward in- 
ventors in proportion to their merits. All that can be done 
is to offer them a special stimulus to encourage them to give 
thought and trouble to the problem of improving on present 
methods and present appliances, so that the public may benefit. 
This the present law does by giving the reward to him whose 
application for a patent is first received. 
Reforms The fourth and fifth objections point to two definite weak- 

ropose . nggggg jjj ^jjg present patent law of the United States: it 
permits the suppression of inventions, and it grants a monop- 
oly for the same rather long period of years to all inventors, 



PRESENT PATENT LAW 405 

irrespective of the character of their inventions or the use to 
which they are put. It is easier to recognize these defects 
tlian to suggest satisfactory remedies. To cure the first, 
it has been proposed that the law require proof from the 
patentee that some use, which benefits the public, is being 
made of his patent within three or four years of the time 
when it is taken out, and that in the absence of such proof 
the patent be revoked. This plan has been tried in other 
countries and found to work satisfactorily. Various remedies 
have been suggested for the second defect. The government 
might reserve the right to buy up a patent at an appraised 
valuation, whenever this course seemed expedient. A decisive 
objection to this plan is that under our form of government 
there is little reason to think that such a right would ever be 
exercised. Another plan is to compel those owning patents 
to share them with others on payment of a fair rental or 
royalty. The difficulty here would be to determine what a 
" fair " return might be. A third plan is to impose a progres- 
sive tax on patents, increasing year by year, with the pro- 
vision that failure to pay the tax would work forfeiture of 
the patent right. Finally, it has been proposed to reduce the 
term for which patents shall be granted from seventeen to 
ten years and to follow the United Kingdom in permitting 
renewals for five or ten years in cases where the public interest 
seems to require it. The last plan has the advantage of sim- 
plicity. It also meets more fully than any other single change 
proposed the objections urged against the present system, with- 
out itself being open to serious objection. 

Patents in the United States are the direct and indirect Present 
cause of large monopoly profits. Some of the more successful, Status of 
such as the Bell telephone patent, have earned large fortunes 
for hundreds of different people and helped to build up 
monopolies which, when not controlled as regards their 
methods of doing business and rates of charge, have continued, 
long after the patents have expired, to yield large monopoly 
returns. Moreover patents have become so numerous of late 
years, being now issued at the rate of 34,000 a year (1911), 
that they figure in nearly every branch of manufacturing en- 
terprise. Several of the trusts owe their ability to control the 



Law. 



406 



LEGAL AND NATURAL MONOPOLIES 



Labels and 
Trade- 
marks. 



Copyright. 



branches of production in which they have been organized to 
ownership over all important patents. Some of them (e. g., the 
Shoe Machinery Trust) have used this ownership so as to 
compel persons buying their patented products to buy also 
accessories supplied by them, and in this way have extended 
the monopoly afforded by the patent to other commodities 
only remotely connected with it. A recent decision of the 
Supreme Court * holding a similar procedure to be warranted 
by the provisions of the present patent law has caused so much 
criticism that at the time of writing (1913) Congress is seri- 
ously considering a bill which, if enacted, will limit a pat- 
entee's exclusive rights hereafter to the commodity actually 
covered by the patent. 

Important as patents undoubtedly are as sources of monop- 
oly income, it would be easy to exaggerate the extent to 
which they lead to the suppression of competition. A large 
number of them are for the protection of rival processes and 
serve to stimulate rather than to diminish competition among 
those employing the different methods. Only when a patented 
process is distinctly superior to all other known processes for 
effecting the same result does it give rise to an exclusive 
monopoly, and even such monopoly is subject, of course, to 
the limitations which have already been discussed. 

Besides granting patents, the United States Patent Office 
registers labels and trade-marks on receipt of a modest fee. 
These have been of importance chiefly in giving a solid basis 
to what is known as the ' ' good will " of a business. A man- 
ufacturer who acquires a reputation because of the quality 
of his products may adopt a trade-mark to distinguish them 
from others. In the organization of the trusts, brands and 
trade-marks have been frequently recognized as among the 
valuable assets of the businesses to be absorbed. 

§ 225. The basis of copyright, " the exclusive right to mul- 
tiply for sale copies of works of literature or art, ' ' is similar 
to that of patent right, and the reasons for it are even more 
obvious. The introduction of copyright in Europe followed 
soon after the invention of printing, but the first general 
English law on the subject was not enacted until 1710. At 
*Dick V. Heniy, decided in 1912. 



DEFECTS IN COPYRIGHT LAW 407 

present copyright in England covers the life of the author 
and a period of seven years after his death, with the proviso 
that the total period of monopoly is not to exceed forty-two 
years. The first national copyright law of the United States 
was passed in 1790 and resembled closely the English statute 
of 1710. It was amended several times and finally superseded 
by the general Act of 1870. The period for a copyright in the 
United States is twenty-eight years, but the author or his direct 
heirs have the privilege of securing a renewal for fourteen 
years more, so that the total period is forty-two years as in 
England. In comparison with the laws of other countries 
these provisions are none too liberal. In Mexico copyright 
is perpetual. In Spain it continues eighty years after an 
author's death, in France fifty years and in Germany thirty 
years. 

Although the copyright law grants a monopoly for a longer Defects in 
period than the patent law, little if any fault is found with it Present 
because the monopoly is of such a limited character. Even 
with this protection, authors and artists as a class are far 
from enjoying excessive incomes and those who succeed in 
obtaining large monopoly profits from their products serve 
as a needed incentive to the great army who find it difficult 
to make even a living from their work. Instead of being 
criticised for being too liberal in its provisions, the American 
copyright law is attacked because it does not extend the same 
protection within the United States to the works of foreign 
authors and artists which the latter enjoy at home. A dis- 
cussion of this objection would carry us too far from the 
subject of monopolies and monopoly profits, but it certainly 
seems anomalous for a country which protects nearly all in- 
dustries which require it, to allow its authors and artists to 
be subjected to the competition of pirated editions and copies 
of the works of foreigners. The provisions of the Act of 1891, 
granting to foreigners on reciprocal terms the privilege of 
securing copyrights in the United States by having their books 
printed simultaneously in this country, remedies the evil only 
for the works of authors of established reputation. 

§ 226. Of all forms of monopolies those which are most 
widespread in the United States are what we have styled 



408 LEGAL AND NATURAL MONOPOLIES 

Importance natural monopolies. Under this head are included monopolies 
of Natural of situation, such as the anthracite-coal combination, and 
Monopolies, monopolies of organization, such as municipal gas, electric 
lighting and street-railway companies, telegraph, telephone, 
express and railway companies, and, in fact, all transporta- 
tion industries except those which use the free public streets 
or free public waterways and enjoy no advantage over other 
patrons of the same facilities. The importance of these busi- 
nesses scarcely needs to be emphasized. The anthracite coal 
strike of 1902 demonstrated conclusively the country's de- 
pendence upon that commodity. Its dependence upon monopo- 
lies of organization is even more pronounced. As industry is 
now organized the services rendered by transportation com- 
panies are indispensable to the business success of nine-tenths 
of the enterprisers in every community. Water, gas or electric 
light, and street-railway transportation have become neces- 
saries of life to dwellers in cities. Quite as important is steam- 
railroad transportation. Without it farmers and manufac- 
turers would be deprived in large measure of the markets 
for their goods and compelled to turn their attention to pro- 
duction for the gratification of their own wants or to supply 
the restricted local markets that could be reached through 
other means of transportation. The conviction that the trans- 
portation businesses enumerated are not adequately regulated 
by competition is only gradually taking shape in the public 
consciousness. For this reason a good deal of attention is 
given in this and the following chapters to the explanation 
of the circumstances which make these businesses natural 
monopolies and therefore proper objects of legal regulation 
and control. 
Natural § 227. Among natural monopolies of situation are included 

^^onopo les ^^jq^jg mineral springs, like those that have made famous 
Situation. Carlsbad in Austria and Saratoga in the United States, and 
a host of other minor monopolistic enterprises. It may be 
questioned whether any out-and-out monopoly of situation 
that is of national importance has yet been perfected in the 
United States. The combination between the producers and 
carriers of anthracite coal in Pennsylvania has, however, 
reached a point at which it presents many of the characteristics 



ANTHRACITE-COAL COMBINATION 409 

of monopoly, and a description of it seems not out of place 

in this connection. 

The anthracite-coal combination has been rendered possible ^^^ ^^' 

by the limited area within which anthracite coal is found. 
•' coal Com- 

The whole field is less than 500 square miles in extent and ^ination. 
fully nine-tenths of the product comes from the five Pennsyl- 
vania counties located near the headwaters of the Schuylkill 
and Lehigh rivers. Into this limited territory nine railroads 
have extended their lines and now serve, with the canals which 
they control, as the sole means of transporting the product 
from the mines to the country's centers of population. As 
long ago as 1871 the railroads, under the leadership of the 
Reading, adopted the policy of buying up coal lands with a 
view to securing an assured share of the coal traffic. It has 
taken them many years to acquire control of the industry and 
to agree among themselves as to the manner in which it should 
be conducted. First, it was necessary for them to enter into 
traffic agreements among themselves that would prevent in- 
dependents from securing discriminating rates on the basis 
of which they might undersell the railroad coal companies. 
This being accomplished, the next step was to raise freight 
rates to a point that would make the coal business relatively 
unprofitable to independent producers and induce them to sell 
out to the railroads on moderate terms. The same rates were 
charged railroad and independent coal companies and this 
made it difficult for the independents to prove that they were 
being treated unfairly, although it was obvious that from the 
point of view of the railroads it was immaterial that their 
collieries were making small profits so long as they themselves 
were prospering. As a result of these policies the coal hold- 
ings of the railroads were year by year extended at the same 
time that their conflicting interests were gradually, through 
consolidations and community of interests arrangements, 
brought into greater harmony. "When the anthracite miners' 
strike of 1900 was declared (September 17), conditions were 
ripe for a few final moves in the game of combination. In 
December of that year J. P. Morgan & Co. negotiated, for the 
Erie Railroad, the purchase of the Pennsylvania Coal Com- 
pany, one of the largest and most successful of the independent 



410 LEGAL AND NATURAL MONOPOLIES 

producers, and in this way defeated a project for building an 
independent railroad from the coal region to tide-water. In 
January, 1901, the Central Railroad of New Jersey was pur- 
chased through the same influence and turned over to the Read- 
ing Railroad. The effectiveness of these changes in consolidat- 
ing the monopoly was shown by the fact that the higher price 
for anthracite coal, which was the immediate consequence of 
the strike of 1900, was continued and even increased in 1901 
and 1902, to the profit of the railroads. According to a reliable 
estimate the railroads controlled by 1901 some 96 per cent 
of the anthracite deposits and actually o\^Tied over 90 per cent. 
The dependence of the individual operators who remain in 
the field upon the coal roads for access to the markets insures 
in ordinary times their acceptance of any agreements which 
the managers of the railroads may enter into for the common 
benefit. At the present time, July, 1913, the anthracite 
coal combination and the different railroads that compose it 
are the defendants in a suit instituted by the Attorney General 
of the United States charging a violation of the federal anti- 
trust act. While, to the lay mind, there is every indication, 
not only that the coal combination exists, but that its price- 
making power is limited only as is that of every other monop- 
oly, by the presence of substitute commodities, such as bitu- 
minous coal, wood, petroleum and gas, there is yet some doubt 
as to the outcome of this suit. The only bond which holds the 
combination together seems to be a " gentlemen's agree- 
ment," the terms of which have thus far been successfully 
concealed from the courts. Unless these terms can in some 
way be established as legal evidence the government will 
probably fail in its prosecution of the combination. Whatever 
the outcome of the suit, however, it can hardly be questioned 
that so long as the agreement is adhered to the economic result 
will be the same as though all the roads were owned by a 
single corporation. The situation illustrates some of the diffi- 
culties that oppose attempts at the suppression of natural 
monopolies by law. 
Future Opinion is divided as to whether in future years the oppor- 

^ ^*'^' tunity open to consumers to substitute other articles will 

serve as a sufficient check on the anthracite-coal monopoly 



MONOPOLIES OF ORGANIZATION 411 

or whether legal interference will be necessary if the interests 
of the public are to be protected. Without attempting to de- 
cide the question, we may lay it down as a general principle 
that the government has not only the right, but the duty, to 
regulate a natural monopoly like the anthracite-coal com- 
bination when it appears that such a business is taking ad- 
vantage of its position to charge exorbitant prices for the 
commodity it controls. 

Some of the more important industrial combinations, such Other 
as the Standard Oil Company before its dissolution and the Natural 
United States Steel Corporation, have undertaken to acquire °^° ^^' 
control of the sources of supply of the raw materials they situation, 
use. In neither case had this development gone far enough 
to justify the characterization of these businesses as natural 
monopolies of situation before the suits to secure their dissolu- 
tion were started by the government. That their managers 
were consciously directing them toward this goal, however, 
was charged in the suits and was one of the grounds on which 
the Standard Oil Company was declared to be in violation of 
the anti-trust act. How far it may prove possible to continue 
this combination in effectual operation through informal 
agreements among its constituent corporations remains to be 
seen. 

§ 228. The second class of natural monopolies embraces all Natural 
businesses whose expenses of production show a steady tend- °^^^° ^^^ 
ency to fall as the size of the business grows. Between such j^ation 
businesses competition can have but one result, combination, 
and monopoly once established can maintain itself indefinitely 
because it can conduct its large-scale operations more cheaply, 
and therefore sell more cheaply, than any small-scale com- 
petitors that may be tempted into the field. 

The transportation and delivery of water to each house in a The Busi- 
city is a business of this kind. It is too obvious to require "^^^ °^ 
discussion that one company having one large supply pipe and ^^^ ^^^^ 
smaller individual pipes for each house can supply water to 
a single street more economically than two or more competing 
companies. It is almost equally obvious that one company can 
supply the water for several adjacent streets more cheaply than 
competing companies each having a street to itself. In order 



412 



LEGAL AND NATURAL MONOPOLIES 



to pump and store water economically it is necessary to do it 
on a larger scale than is open to a water company which 
supplies houses on a single street. As regards this part of 
the business, economical production requires that the whole 
of a city of less than 500,000 inhabitants should be supplied 
by one company and that proportionately large sections of 
larger cities should be so supplied. But the mechanical is 
only one side of the business. When in addition are consid- 
ered the economies in expenses of administration open to the 
larger plant, the saving due to the smaller excess storage capac- 
ity required when a shortage of water from one source can 
be balanced by larger supplies from other sources and all the 
other possible economies of combination, the reasons for char- 
acterizing the business of supplying water in cities as a natural 
monopoly of organization become clear. 
The Gas Quite similar to the case of a water company are the cases 

an ec nc ^^ ^^^ ^^^ electric-lighting companies. They also use main 
Monopolies ^^^PP^^ pipes or wires and must control all the business in a 
large section of a city in order to be conducted most econom- 
ically. Moreover, for them the saving in the expenses of 
administration that can be effected as the company expands 
is of the utmost importance because their businesses are more 
complex. Few familiar with these businesses deny that they 
are natural monopolies in the same sense as the water business, 
or think that competition can regulate them, except that in- 
direct competition which consumers themselves set up between 
gas, electricity and petroleum as means of lighting dwellings. 
When, as is frequently the case, the same set of men control 
the municipal gas monopoly and the electric-light monopoly, 
even this competition becomes a rather unreliable dependence. 
§ 229. The street-railway business has many features in 
common with the businesses just described. A street-railway 
company must also have a monopoly at least of the single 
street on which its cars run, partly because of the useless 
duplication of plant that would result if a rival company 
were maintained and partly because of the physical limita- 
tions of the street itself which makes even one set of tracks 
a serious inconvenience to the public. Rival companies may 
be chartered to run cars on adjacent streets, however, and 



The Street 

railway 

Monopoly. 



REASONS FOR COMBINATION 413 

this was the usual first step in the history of the relations 
between municipalities and street-railway companies in the 
United States. For a time companies operating parallel lines 
may compete, but their competition, as experience has demon- 
strated over and over again, always ends in consolidation. 
Each company has to have its full equipment of tracks, power 
houses, cars, etc., and the most expensive of these items stand 
as fixed and necessary charges, irrespective of the volume of 
business which the company handles. Suppose that two rival 
companies begin by halving the business for the section of 
the city which they serve. If their tracks are but a square 
apart a very slight advantage in favor of either will divert 
to it passengers from the other. This consideration may lead 
one to lower its fares ; but this is a game at which two can 
play with about equal success and its sure consequence is loss 
of profits for both competitors. Realization of this fact comes 
quickly and causes a first step toward consolidation, an agree- 
ment as to rates of fare. 

But there are other ways in which passengers may be Heasons 
attracted from a rival line. If the companies start as horse- for Corn- 
car lines, as did the street-railway companies of all the older 
cities of the United States, superior management will show 
itself in quicker service. Every passenger drawn to the better 
line will add nearly his entire fare to its profit account — since 
the fixed charges are relatively so large and the running ex- 
penses, which alone increase with the number of passengers 
carried, relatively so small — and will, for the same reason, 
deduct nearly his entire fare from the profit account of the 
rival company. The successful competitor has thus a larger 
and larger profit fund with which to improve still further 
the quality of its service, while the other company is forced 
by falling profits to enter upon a policy of retrenchment and 
economy which will drive away still more of its customers. 
The inferior company may struggle on and pay small divi- 
dends so long as both lines use the same sort of power, but 
the introduction of the cable or trolley system by the superior 
line is likely to draw away so many of the passengers of the 
other that it is driven into bankruptcy — -or consolidation with 
its rival. This in brief is the story of the street-railway busi- 



414 



LEGAL AND NATURAL MONOPOLIES 



Advantages 
of Com- 
bination. 



The 

Telephone 

Monopoly. 



ness in the cities of the United States. Its chapters have 
become so familiar to street-railway managers that they 
now usually take a short cut to consolidation as soon as a 
rival company is chartered to run on streets parallel to their 
own lines. Only in case the organizers of the new company 
demand too high terms is the experiment of competition actu- 
ally tried and the question decided, as in the medieval trial 
by combat, which contestant is to take the life of the other. 

The advantages of consolidation in the street-railway busi- 
ness are similar to those enumerated in connection with other 
natural monopolies. (1) The fixed plant may be more fully 
and more economically utilized. Thus, cars may be run only 
over the streets that are most conveniently situated for traffic, 
power stations may be placed more advantageously and the 
rolling stock may be better adapted to the tastes of different 
classes of patrons, new cars being used on fashionable streets 
and old equipment worn out where it will excite least criticism. 
(2) Superior ability may be employed in each department and 
specialization may be carried further. (3) Improved appli- 
ances may be experimented with and introduced more readily 
than by smaller competing companies. As regards the street 
railway, then, as as regards the businesses of supplying water, 
gas or electricity, the conclusion seems to be justified by theory 
and confirmed by experience that monopoly is the natural, in- 
evitable and economically desirable form of organization. 

§ 230. The next most important municipal monopoly, the 
telephone business, owes its form of organization to somewhat 
different circumstances. Unlike the business just described it 
is not subject to the law of decreasing expense. On the con- 
trary electrical engineers maintain, and with apparent reason, 
that the larger the number of subscribers served through one 
exchange the larger is the expense per subscriber of rendering 
the service. This is because the exchange stations must be so 
arranged that each new subscriber — or group of subscribers 
where party lines are used— may have his wire connected 
readily by each of the many operators required in a large 
office with that of every other subscriber. If one operator 
is able to attend to the calls of fifty subscribers and the office 
serves one thousand, this necessitates twenty different ter- 



THE TELEPHONE MONOPOLY 415 

minals at the exchange for each wire. If the number of sub- 
scribers doubles, each separate wire must be let in at forty 
points. If five thousand subscribers are to be served, each 
wire must have one hundred distinct terminals. In this way 
the expense at the central office increases by multiplication 
rather than by addition. For five thousand subscribers not 
five times, but twenty-five times as many connections are 
needed as for one thousand. Nor is there the saving of ex- 
pense outside the central office in the telephone business that 
is to be found, for example, in connection with electric-light- 
ing. For the best service it is necessary to have a distinct wire 
for each new subscriber. Fair service can be given to two 
parties on the same line. Four-party lines are less satisfac- 
tory. Lines serving more than four have been found to work 
so badly that they are now little used in cities. Thus as 
regards outside wiring the expense grows uniformly with the 
number of subscribers. There are, of course, on the other 
hand, economies in administration which result from an in- 
crease in the number of subscribers and which must be taken 
into account. On the whole it appears to be true, however, 
that increasing rather than diminishing expense is the law of 
growth in the telephone business. 

Monopoly resulted in this business at the outset in the Monopoly 
United States from the patent, which until 1895 gave the Bell B,enders 

companies the exclusive right to meet the need that the tele- „°^^ . ^ 

. Convenient 

phone soon came to fill. Smce 1895 the monopoly has been ggj-vice 

maintained in many cities in consequence of the unwillingness possible. 

of the public authorities to grant franchises to new companies. 

In other localities, and especially throughout the Middle West, 

rival companies have started up and competition has been an 

active influence in determining charges and quality of service. 

The fact that the business is subject to the law of increasing 

expense is favorable to the perpetuation of this competition. 

The consideration that opposes it is that, assuming equally 

prompt connections, the convenience of the community is 

better served by one large company than by two or more 

smaller ones. The larger the company the larger the number 

of persons with whom each subscriber may converse. One 

company controlling a city's entire business can put each of 



416 



LEGAL AND NATURAL MONOPOLIES 



Methods 
of Fixing 
Bates. 



its subscribers into communication with every other person in 
the city who has a telephone. Two or more competing com- 
panies cannot do this. Their service may be cheaper but it 
cannot be as extensive. In the telephone business, then, con- 
siderations of expense make for the survival of the smaller 
companies and the perpetuation of competition ; considerations 
of convenience make for combination into a single company 
and for monopoly. For the above reasons there is still differ- 
ence of opinion among telephone experts as to whether the 
business should be classed as a natural monopoly of organiza- 
tion or not. We have so classified it because, the country over, 
competition in the business is the exception rather than the 
rule. Whether this is because the business started as a legal 
monopoly or because it is monopolistic in its very nature time 
will determine. 

A study of the evolution of the methods of charging for 
telephone service throws an interesting light on the means by 
which the companies increase their charges as the number of 
their subscribers grows. It shows in the first place that the 
rates per message are higher the larger the size of the city in 
which the telephone is installed. Such differences in rates are 
sufficient to make up for a considerable increase in the expense 
of rendering the service in the larger places. Nor is this the 
only contrast. In the larger places each subscriber is apt to 
use his telephone more than in the smaller. By changing from 
the original plan of charging a lump sum for unlimited service 
to the plan now almost universal of charging for each message, 
the companies have increased the actual returns on each in- 
strument in the larger places very considerably. To the sub- 
scriber the system of charging for each message seems fair 
and reasonable. To the company it is highly advantageous 
because it causes its receipts to grow in increasing proportion 
as the size of the exchange grows, although no change appears 
to have been made in the rates. In these ways the telephone 
monopoly adjusts its charges to the value of the service it 
renders and is fully compensated for any increase in the rela- 
tive expense of supplying telephone facilities to an increasing 
number of patrons. 

§ 231. For the reasons explained in Section 123 it is often 



MONOPOLY PROFITS OF STREET RAILWAYS 417 

well-nigh impossible to ascertain the relation which the earn- 
ings of a business long organized as a corporation bear to 
the capital actually invested in it. This is particularly true 
in the case of municipal monopolies in the United States, as 
they have had every inducement and facility to conceal their 
profits by means of overcapitalization. At least two investi- 
gations have, however, been made which throw some light on 
the profitableness of street-railway enterprises. 

According to the late Professor Spiers,* who made a careful Monopoly 
study of the street railways of Philadelphia, the terms on Profits of 
which the Union Traction Company, organized in 1895, ac- ^^^ 
quired control of all of the street railways in that city involved ^^ ^^^ 
the payment by it of 5 per cent interest on the capital which united 
had actually been invested in these lines, which he put at States. 
$35,000,000, and on an additional $75,000,000 which repre- 
sented the value of the franchise or of the monopoly which the 
subsidiary companies enjoyed. In other words the lease called 
for payments aggregating nearly 16 per cent on the capital 
originally invested. If instead of capital invested, the expense 
of reproducing the plants had been taken as the criterion of 
the proper capitalization, the result, as he shows, would have 
been even more favorable from the point of view of monopoly 
profit. Since Professor Spiers made his inquiry the Union 
Traction Company has itself been leased by a new company, 
organized in 1902, on terms which insure a fair monopoly 
profit to its stockholders over and above that promised to the 
subsidiary companies. An even more thorough-going inquiry 
than that made by Professors Spiers in Philadelphia was made 
a few years later by a committee of the Civic Federation in 
Chicago. According to the Report t published in 1901, it 
was found that nearly $75,000,000 of the total valuation of 
$120,000,000 put upon the street railways of Chicago in July 
of that year, represented the value of franchises, or of the 
monopoly. The net earnings of the companies during the 
preceding year were found to equal 14.6 per cent on the 
original cost of the plants, rolling stock, etc., of the com- 

* The Street Raihoay System of Philadelphia, p. 45. 
t The Street Railways of Chicago, Reprinted from Municipal Affairs, 
1901. 



418 LEGAL AND NATURAL MONOPOLIES 

panies, and 20 per cent on the cost of reproducing these plants 
and equipment. If the results shown by these two investiga- 
tions may be accepted as fairly typical of the profitableness 
of street-railway monopolies generally, and there is no reason 
known to the author for supposing that conditions in Philadel- 
phia and Chicago have been peculiarly favorable to these 
businesses, the monopoly profit in the United States from this 
one kind of municipal enterprise must aggregate many mil- 
lions each year. According to a report of the Census Bureau 
799 of the 817 operating street and electric railways which 
did business in the United States during the year ending 
June 30, 1902, showed gross earnings equal to nearly $250,- 
000,000 and net earnings of over $105,000,000. If the latter 
bore the same relation to the original cost of plant and equip- 
ment as was shown for Philadelphia and Chicago (that is, 
14.6 to 16 per cent), from one-third to one-half of the amount 
ought to be credited to monopoly profit. 
Of Other Quite as profitable as the street-railway business have been 

Municipal ^j^^ other municipal enterprises described as natural monopo- 
^ ^^ ■ lies. If the monopoly profits from all of these businesses in 
the United States could be added together, it would, doubtless, 
be found that they amount each year to hundreds of millions 
of dollars. When the magnitude of these profits and the ease 
with which they may be capitalized are considered, the many 
large private fortunes which have been gained by bribing State 
legislatures and municipal councils to dispose of franchises for 
municipal monopolies for a mere fraction of their value need 
excite no surprise. Unfortunately, the stocks and bonds of 
these corporations have changed hands so frequently since 
they were originally issued that the men who have reaped the 
largest returns from them will not be affected by the tardy 
measures that may now be taken to secure a larger share 
of the benefit from these improvements for the whole 
people. 
The Solu- § 232. The usual first impulse of the student of the munici- 
Munici 1 ^^^ monopoly problem is to advocate municipal ownership and 
Monopoly operation as a remedy, and there is much to be urged in favor 
Problem. of this policy. Monopolies by their very nature, concerned 
with services in which the whole people have a vital interest, 



PUBLIC OWNERSHIP QUESTION 419 

and limited in the scope of their operations to the particular 
towns or cities which they serve, these businesses, if any, it 
would appear, should be undertaken by municipal govern- 
ments as branches of the public administration. Yet the ob- 
jections to such a policy for the cities of the United States are 
very strong. The arguments on either side must be weighed 
in connection with the local conditions affecting the problem. 
Only in this way can a wise decision be arrived at. 

The advocates of public ownership claim the following ad- Arguments 
vantages for that policy: (1) The quality of the service ren- ^o^ Public 
dered by a branch of the public administration is likely to 
be superior to that resulting from private enterprise. (2) The 
desire for profit being removed, the charges under public 
ownership will be adjusted to the expense of rendering the 
service. From this it is argued that charges will be low and 
the widest use of these essentials to civilized existence will be 
encouraged. (3) The corrupting influence of unscrupulous 
corporations anxious to retain or to have extended their 
franchise privileges will be removed from city politics. (4) 
Enlarging the scope of municipal activities will enlist in the 
service of the city more and better officials. At the same time 
it will increase intelligent interest in public affairs and tend 
to elevate the tone of political life. This argument assumes, 
of course, that the new departments of the municipal govern- 
ment will be subjected to adequate civil service regulations. 
(5) Experience, it is claimed, has shown that nothing short 
of public ownership and operation of these businesses can 
secure the degree of control necessary to the safeguarding of 
the public interests. 

In support of private ownership and operation the follow- Arguments 
ing considerations are urged in rebuttal: (1) There is no ■*'^*^^^* 
ground for assuming that the service rendered by the muni- Q^j^gj-g^jp 
cipal government will be better than that rendered by private 
enterprise. On the contrary, if experience is to be relied upon, 
municipal governments will inflict on the public water, gas, 
etc., of qualities that would not be tolerated from private com- 
panies organized for profit. (2) The inefficiency character- 
istic of municipal activity is certain to show itself in high 
expenses of operation. These higher expenses may necessitate 



420 LEGAL AND NATURAL MONOPOLIES 

higher charges than are required under private management 
even to afford liberal monopoly profit. (3) At the present 
stage of political development, public ownership and operation 
would mean simply more spoils for politicians. In its prac- 
tical effects it would be even more demoralizing, politically, 
than the corrupt influence of private corporations complained 
of. (4) Private ownership is more progressive than public 
management. Though temporary advantages might result 
from public ownership, it is argued that this policy would 
sacrifice the public interest in the long run by checking im- 
provements. (5) It is denied that adequate legal regulation 
and control of private companies may not be secured when 
the community is really alive to its own interests. Given care 
in the drafting of franchises and insistence that these shall 
lapse after a limited time, more satisfactory results may be 
realized, it is claimed, under private than under public owner- 
ship. 
Other Con- These arguments, it will be seen, are partly contradictory 
siderations. and partly related to unconnected phases of the problem; 
their mere statement emphasizes the necessity of studying local 
conditions before declaring for either public or private owner- 
ship. In general, it is probably true that the quality of the 
service can be more easily controlled under public than under 
private management. Where quality of service is all-im- 
portant, as in the case of the water supply, this furnishes an 
argument for the former which is not found, for example, in 
connection with the telephone business. On the other hand, 
where the methods of operation are in process of rapid im- 
provement, as in the case of the telephone business, the 
superior progressiveness of private management is an argu- 
ment on that side that is not found in connection with the 
business of supplying water. More striking even than differ- 
ences between the different businesses are the differences be- 
tween the political preparedness of different localities for 
public ownership. In certain New England towns, where 
public spirit is highly developed, these services may be and 
have been undertaken with success. In other towns of the 
same size in other sections, in which civic self-consciousness is 
just beginning to manifest itself, attempts to perform them 



REGULATION OF MONOPOLIES 421 

through the town governments have frequently resulted in 
failure. 

In the United States, up to the present time, there has The 
been a marked tendency to rely upon private initiative and Situation 
private enterprise for the performance of these services, as 
of other services of an industrial character. The only im- states and 
portant exception has been in connection with the business Abroad, 
of supplying water to dwellers in towns and cities, and this 
has been undertaken by municipal governments less because 
of any distrust of private enterprise in this field than because 
good water has been demanded by public opinion even before 
the business of supplying it gave promise of proving financially 
successful. On the other hand, abroad, and especially in Ger- 
many, the preference is for the public ownership and operation 
of businesses of this type. "Where the conditions are sufS- 
ciently similar to admit of comparison, something may be 
learned by a study of the results of the different systems in 
different lands, but, unfortunately, conditions in the United 
States are quite unlike those in any European country, and 
it appears to be the rule that those who apply the comparative 
method to this problem prove, at least to their own satisfac- 
tion, just about what they hoped to establish when they began 
their inquiry. 

§ 233. If, after carefully weighing the advantages and dis- Method of 
advantages of municipal ownership and operation, a com- B,egulating 
munity decides against their adoption, the alternative is by 
no means the unregulated private ownership and operation 
encountered in most American cities. For these monopolies, 
especially, public regulation and control are indispensable to 
the protection of the public interest. To determine how this 
control shall be exercised is a problem for students of 
politics rather than of economics, but the following general 
principles may be suggested: (1) Such businesses are natural 
monopolies, and nothing is to be gained by attempting to sub- 
ject them to the control of competition. Exclusive franchises 
should be granted to the companies intrusted with them. 
(2) These franchises should be limited to a definite term of 
years. The term must be long enough to encourage that in- 
vestment of capital that is indispensable to efficient service, 



422 LEGAL AND NATURAL MONOPOLIES 

but not so long as to commit the municipality to high charges 
when changed conditions may make lower charges profitable. 
When the term expires the franchise should revert to the 
municipality and it should have the privilege of acquiring for 
itself or for a new company, at a fair valuation, the plant and 
equipment of the old company, in case its charter is not ex- 
tended. (3) The specifications in the charter should be care- 
fully drawn by experts so as to insure, at least at the outset, 
the best quality of service at reasonable rates. Charters should 
be granted like other government contracts to the responsible 
bidder offering the most favorable terms, and every effort 
should be made to advertise widely the provisions of the char- 
ter, and to prevent collusion between those who make bids. 
(4) Public service commissions should be created and given 
large powers of regulation and control. Space will not permit 
detailed discussion or defense of these principles. Although 
stated dogmatically, it is believed that they represent the con- 
sensus of opinion among those students of public-service cor- 
porations who recognize them as monopolies and yet hesitate 
to advocate for them municipal ownership and operation. 
Obstacles n jg one thing to lay down general principles and quite 

e Over- ^j^Q^j^gj. ^q carry them out in practice. Only of late years 
United ^^^^ public opinion in the United States been sufficiently en- 
States, lightened on the subject of municipal monopolies to demand 
any sort of adequate control and regulation, and in the mean- 
time all sorts of abuses have been permitted. Perpetual char- 
ters have, in many cases, been granted on terms which permit 
the companies operating under them to disregard completely 
the interests of the public. Worse than all, public-service cor- 
porations have come to exert an influence on political parties, 
through contributions to campaign funds, and on public offi- 
cials, through powerful and unscrupulous lobbies, which op- 
poses a serious obstacle to efforts to control them through 
political means. Neglect of the question has brought about a 
state of affairs in which each community is confronted by a 
special problem, modified by local conditions, and must pro- 
ceed as best it may to gain the mastery over the corporations 
which it has so carelessly created and allowed to grow to over- 
weening power and influence. In dealing with such corpora- 



REFERENCES 423 

tions vested interests must be respected, but it must not be 
forgotten that the true interest of the whole community is 
more important than that of a particular class in the commu- 
nity, and that every great reform of necessity inflicts hardship 
upon some individuals. It is the duty of the government to 
indemnify innocent persons who are injured by changes which 
are deliberately undertaken with a view to the general welfare, 
but it is even more its duty to make such changes. The re- 
form and the desirability of the reform should be the pre- 
dominant considerations, the indemnification an incidental 
accompaniment neither to be exaggerated nor lost sight of. 
Only thus can progress toward a better economic and political 
organization of society be realized. 

REFERENCES FOR COLLATERAL READING 

*Le Rossignol, Monopolies, Past and Present (bibliography) ; Bemis, 
Municipal Monopolies, *Ely, Problems of To-day, Chaps. XVII.-XXI.; 
*Darwin, Municipal Trade: The Advantages and Disadvantages; *Howe, 
The City for the People; Spiers, The Street Railway System of Phila- 
delphia; Heilman, Chicago Traction, a Study of the Efforts of the Public 
to Secure Good Service; Report of Committee of National Civic Fed- 
eration on Municipal and Private Operation of Public Utilities, 3 vols. 



of Organ 
ization. 



CHAPTER XXIV 
RAILROAD PROBLEM IN THE UNITED STATES 

National § 234. In addition to the municipal monopolies discussed in 

^^°_^^^ the last chapter there are businesses, national in their scope, 
which should also be classed as natural monopolies of organiza- 
tion. The principal are the telegraph, the long-distance tele- 
phone, the express and the railroad businesses. For them, as 
for municipal monopolies, the fixed charges are a chief item 
of expense. Thus a telegraph or long-distance telephone com- 
pany, whether large or small, must maintain offices in and 
connecting wires between the principal centers of population 
or it will have few patrons. In comparison with the cost of 
this necessary equipment the expense of receiving and sending 
messages is small. It follows that one company utilizing fully 
its permanent plant can conduct all of the business more eco- 
nomically than can two or more companies needlessly dupli- 
cating plants. In the express business the situation is similar 
as regards terminal offices, although the tendency toward com- 
bination and monopoly is less marked than in the telegraph 
business, because the actual transportation of goods is effected 
by railways acting as agents. These circumstances make 
monopoly the economical form of organization for each one 
of these businesses. That no one of them has yet become an 
open monopoly in the United States is no disproof of this 
assertion. Public hostility to monopoly is so familiar and 
finds such frequent expression in legislation and the decisions 
of the courts, that business managers are careful to maintain 
the forms of competition even after the substance has de- 
parted. 

§ 235. The railway business exhibits on a larger scale sim- 
ilar conditions to those found in the telegraph business. Road- 
bed and terminal facilities represent heavy fixed charges that 
must be met, no matter how small the volume of business. 

424 



RAILRAD CONCENTRATION 425 

The more fully these can be utilized in carrying on a dense Circum- 
traffic the smaller will be the expense for each unit of traffic, stances 
It follows that competition for business among long-distance Making the 
railways partakes of the same life-and-death character that Business 
was described in connection with street railways. When one Monopo- 
road gains an advantage and begins to swell its profits by listic. 
drawing from the profits of the other company, the situation 
of the latter is very soon rendered desperate. It has to choose 
between combination with the other road on its own terms and 
bankruptcy, and either choice, as American experience has 
shown over and over again, means in the end combination and 
monopoly. " A railroad is thus," to quote from one of the 
reports of the Interstate Commerce Commission, " essentially 
a monopoly. This is literally true as to all local points upon 
its line which are reached by it alone." And it is virtually 
true, as the report adds by implication, even of " competitive 
points," since the rates at such points are now fixed quite 
generally by agreements among the nominal competitors. 

§ 236. The progress toward concentration of railway con- Progress 
trol in the United States has been marked by three distinct toward 
stages. In the earlier period the railways were looked upon 
as beneficent agencies meriting generous public support and tioninthe 
full confidence. Consolidations were regarded with indiffer- united 
ence, if not with favor, and the business was permitted to de- States, 
velop in the direction of monopoty as rapidly as its nature 
dictated. About 1870 it began to be appreciated that the 
power of the railways for evil might prove quite as great as 
their power for good. The cry of extortionate rates and 
monopoly was raised, especially in the agricultural states of 
the Middle "West, and an era of drastic restrictive legislation 
was inaugurated. For fifteen years the states tried to deal 
with the railway problem through state laws and state rail- 
way commissions armed with sweeping powers. The chief re- 
sult of their efforts was to educate public opinion as to the 
real nature of the railway business and to prepare the way 
for Federal interference. Incidentally they forced some of 
the roads into bankruptcy, and compelled all of them to sub- 
stitute secret for open methods for securing the centralization 
of control that continued to be desirable. In this second stage 



426 RAILROAD PROBLEM IN UNITED STATES 

secret agreements in regard to rates were substituted for com- 
petition. The ease with which such agreements might be vio- 
lated suggested that to them be added definite understandings 
in reference to the division of the traffic among nominally 
competing roads. The entire business was " pooled " and then 
divided up in an agreed proportion among the companies en- 
tering the pool. As one provision of these pooling agreements 
guaranteed to each road its proportion of the revenue from 
the joint traffic, whether it carried its exact proportion of the 
freight and passengers or not, the inducement to rate-cutting 
on the part of individual roads was removed, and the stability 
of rate agreements was proportionately strengthened. Such 
' ' pools ' ' became very common after 1880 and served to create 
combinations and monopolies on behalf of the roads entering 
into them as effective, while they lasted, as though the roads 
were under one management. In consequence, they became 
special objects of attack on the part of those who still believed 
in competition as a remedy for excessive railway rates. When 
Federal the Interstate Commerce Act was passed, in 1887, one of its 
egis ation, gj^^ggg expressly forbade ' ' pooling. ' ' The Federal Anti- 
Trust Act of 1890, as interpreted by the United States Su- 
preme Court, went even further, and prohibited all agree- 
ments in regard to rates. In consequence of these two meas- 
ures railroad managers have been compelled during the third 
period of railroad development to look for other means to 
harmonize conflicting interests and secure the desired centrali- 
zation of control. Among such means the most common have 
been the acquisition by one road of control over others through 
stock-ownership, the combination of two or more roads in 
holding companies owning sufficient stock in each to control 
them, and the development of a " community of interests " 
among railroads through interlocking directors and stock- 
ownership. In these different ways centralization of control 
has been extended to embrace a constantly growing proportion 
of the railroad mileage of the United States. Thus, while in 
1890 less than half of the total mileage of the country was 
operated by companies controlling 1000 miles of line or more, 
by 1910 more than 60 per cent was so controlled. At the be- 
ginning of the new century there were indications that prog- 



DISCRIMINATION IN RATES 427 

ress in this direction if unchecked would go forward at an 
accelerated rate. In the year 1901 alone three great combina- 
tions were consummated : the Pennsylvania Railroad acquired 
a large interest in the Baltimore and Ohio, the Union Pacific 
acquired control of the Southern Pacific and the Northern 
Securities Company combined the Great Northern and the 
Northern Pacific just after these roads had acquired the Chi- 
cago, Burlington and Quincy. The lease of the Southern 
Pacific by the Union Pacific and the Northern Securities combi- 
nation have been held to be in violation of the Anti-Trust Act, 
but without, apparently, interfering seriously with the unified 
control which they were designed to establish on a secure 
legal basis. The decision against the Northern Securities 
Company (1904) prevented the consummation of other plans 
of consolidation that were under consideration at the time 
it was rendered, but community of interests arrangements 
have continued to be made with the result that there is 
greater harmony, that is, less aggressive competition, among 
the great railroad systems of the country to-day than at any 
previous period. This does not mean that rates will be made 
higher than formerly. The Interstate Commerce Commission 
now has full power to control rates and in 1911 took a firm 
stand against the proposal of the railroads to advance their 
charges, notwithstanding that the higher prices for materials 
and the higher wages which they were compelled to pay made 
some advance seem not unreasonable. Moreover, the railroad 
is still restrained in its rate-making by all of the considerations 
enumerated in the section discussing the limitations on monop- 
oly (Section 120), and happily the railroad business is of 
such a nature that low rates and a large volume of traffic are 
usually much more profitable than high rates and a smaller 
amount of business. It does mean, however, that the time has 
passed when competition among railroads should be longer 
relied upon to control the policies of railway managers. 

§ 237. The first attacks upon the railroads, in the ' ' Granger Discrimi- 
legislation " of the decade from 1870 to 1880, were based on the "*"°^ ^^ 

Itd,t6S * 

charge that their rates were extortionate, but it soon became ^j^^j^g. 
evident that an even more serious evil in connection with them commodi- 
was discrimination. This may be of three kinds. First, freight ties. 



428 RAILROAD PROBLEM IN UNITED STATES 

classifications may be made in such a way that particular com- 
modities are discriminated against. For example, it has been 
charged against the railroads carrying wheat from the Middle 
West to the sea-board that they make rates on wheat so low 
in comparison with their rates on flour that the millers of 
Minneapolis and Duluth can no longer produce for export. 
The determination of the rates that shall be charged on differ- 
ent commodities presents one of the most difficult problems 
in the whole range of railroad practice. In general, the policy 
of railroad managers is so to classify articles that each shall 
pay as high a rate as ' ' the traffic will bear. ' ' The more valu- 
able the commodity, in proportion to its bulk, the higher, 
ordinarily, the rate it can afford to pay. On this ground 
the highest rates apply usually to costly finished commodi- 
ties, and the lowest to staple materials. It is obvious that 
within the limits of this general plan there is wide range 
for variation, and that the railroad manager who wishes to 
favor the development of one industry at the expense of 
another, or of one locality at the expense of a rival or of 
one firm in opposition to its competitors, may do so in many 
cases merely by changing the rates on the articles to be 
affected. 
Among More serious, because more far-reaching in its consequences, 

is the second form of discrimination — that among places. 
Under present conditions no community lives to itself alone. 
Most communities produce chiefly for export to other localities 
and rely on other localities for most of the commodities needed 
to gratify home wants. As a rule, the railroad is the agency 
through which the exportation of surplus products and the im- 
portation of needed products in exchange are effected. It has 
still at certain points competitors in the public highways and 
in canals and water routes, but for ninety out of every one 
hundred communities in the United States the services of the 
railroad are indispensable to industrial prosperity, if not to 
industrial existence. Under these circumstances the power of 
railroads to stimulate or retard the prosperity of centers of 
population can hardly be exaggerated. By granting low rates 
they can transform even unpromising sections into busy seats 
of agriculture, manufacturing or mining. High rates may 



AMONG PERSONS 429 

have an equally deadening effect upon sections that were pre- 
viously prosperous. 

In general, the interest of the railroad is served by encour- 
aging the growth of centers of population where the natural 
conditions are most favorable, but it often happens that special 
reasons lead to quite a different policy. One such reason is the 
necessity of sharing traffic with other transporting agencies 
at competitive points. If high rates are asked at such points, 
the temptation to break traffic agreements in order to obtain 
a larger share of the business is too strong to be resisted. 
Hence low rates usually prevail where two or more roads serve 
the same community, and railroad managers are only too 
apt to charge high rates at intermediate points. Local rates 
were so high when the Interstate Commerce Act was passed 
in 1887 that a special provision, known as the ' ' long and short 
haul clause," was inserted to protect local shippers. This 
provides that the rates between intermediate points on the 
same road must not exceed rates between terminal points. An- 
other reason for discrimination among places is the special 
interest which the railroad or its managers may have in the 
development of particular localities. It has not infrequently 
happened that railroad managers who have acquired large 
tracts of land in particular sections have deliberately lowered 
freight rates for such sections in order to attract settlers to 
them and in this way enhance the value of their holdings. 
The demoralizing consequences of such unjust practices have 
been experienced too frequently in all parts of the United 
States to require emphasis. 

§ 238. The third and worst form of rate discrimination is Among 
that among persons. The motive for such discrimination is I'ersons. 
inherent in the nature of the railway business. Unlike the 
farmer or the manufacturer with reference to their products, 
the railroad manager cannot calculate what it costs him to 
carry additional freight or additional passengers. His fixed 
charges must be met in any case. The additional expense 
connected with additional traffic is so small that almost any 
rate for the particular traffic will prove profitable so long 
as the open rate for other traffic is maintained. " Generally 
speaking, ' ' to quote again the language of the Interstate Com- 



430 RAILROAD PROBLEM IN UNITED STATES 



Motives 
for Such 
Discrimi- 
nation. 



merce Commission, " he feels that he must have the traffic. 
His road is there, and it can be used for nothing else. The 
property with which he stands charged may be seriously in- 
jured without that particular traffic, and he must get it when 
it is moving. He cannot lie idle for better prices or more 
prosperous conditions. There is, therefore, a constant tempta- 
tion to obtain it at any cost. Now, the rates between two 
competitive points have been published. The manager of one 
road finds that business has abandoned his line, and he believes 
that it is moving by a rival route. He can draw but one in- 
ference, and that is, that his competitor has secretly reduced 
the rate. Under these circumstances what shall he do? Shall 
he maintain the published rate and thereby abandon business ? 
But that means disaster to his road, the loss of his reputation 
as a manager, and ultimately of his employment. What most 
managers actually do is to get the business by making whatever 
rate is necessary. ' ' * 

It may be said that railroad managers have no more reason 
to deal unequally with different customers than managers of 
other businesses ; but, unfortunately, this is not the case. A 
situation which frequently confronted a manager at the period 
when discriminations were common was described by Mr. C. M. 
Wicker of Chicago, in testimony given before an investigating 
committee of the Illinois legislature. He said : ' ' Here is quite 
a grain point in Iowa, where there are five or six elevators. 
As a railroad man I would try and hold all these dealers on a 
level keel, and give them all the same traffic rate. But sup- 
pose there was a road five or six miles across the country and 
all these dealers should begin to drop in on me every day or 
two and tell me that the road across the country was reaching 
within a mile or two of our station and drawing to itself all 
the grain. You might say it would be the right and just thing 
to do to give all the five or six dealers at the station a special 
rate to meet that competition through the country. But, as a 
railroad man, I can accomplish the purpose better by picking 
out one good, smart, live man, and, giving him a concession 
of three or four cents a bushel, let him go there and scoop the 
business. I would get the tonnage, and that is what I want, 
* Twelfth Annual Report (1898), p. 18. 



RAILROADS AND TRUSTS 431 

but if I give it to five it is known in a very short time. ' ' For 
such reasons railroad managers cutting their rates usually 
preferred to deal with one rather than with a number of ship- 
pers. The discriminating rate must be kept secret or other 
shippers would be dissatisfied, and secrecy was only possible 
where knowledge of the transaction was confined to the man- 
ager and the favored shipper. Nor were shippers themselves 
entirely passive in connection with discriminations. Business 
managers controlling large amounts of traffic at competitive 
points became well versed in the process of playing roads off 
against one another. It has even been alleged that in some 
cases men withdrew their entire business from one road in 
order to convince its traffic agent that they were getting dis- 
criminating rates from another, and in this way persuade him 
to grant even lower rates, when, as a matter of fact, no dis- 
crimination had existed. 

The reports of the investigating committees and commissions Railroads 
which have inquired into the practices of railroads in the ^^^ Trusts. 
United States are full of evidence as to the extent to which 
discriminations have been practised in the past. Some of the 
most flagrant cases have been brought to light in connection 
with investigations of the trusts. Thus, in one case the 
Standard Oil Company entered into a contract with a railroad, 
which was at the time operated by a receiver, under which 
the railroad was to charge it only ten cents a barrel for trans- 
porting its oil while charging other companies thirty-five cents 
for the same service, and Avas to pay to it twenty-five cents of 
the excessive charge imposed upon its competitors. That 
such an arrangement would be fatal to the competitors is 
obvious. There is abundant evidence that similar, if less 
favorable, traffic arrangements had much to do with the early 
success of the Standard Oil Company in crushing its com- 
petitors or compelling them to sell out to it on terms favor- 
able to itself. In the judgment of the Interstate Commerce 
Commission, expressed as late as 1898, " there is probably 
no one thing to-day which does so much to force out the 
small operator and to build up those monopolies against which 
law and public opinion alike beat in vain, as discrimination 
in freight rates." 



432 RAILROAD PROBLEM IN UNITED STATES 



Monopoly 
Profits 
Enjoyed 
by the 
Eailroads. 



§ 239. That the businesses classified as national monopolies 
of organization have given rise and do give rise to very large 
monopoly profits is well understood, but reasons already ex- 
plained make the exact measurement of these profits im- 
possible. These businesses are peculiarly sensitive to public 
opinion and have been careful to so adjust their nominal cap- 
italizations to their earning powers that the interest and divi- 
dends that they pay to investors seem, when the risks con- 
nected with such enterprises are considered, scarcely a fair and 
certainly not an excessive return. Thus the aggregate capi- 
talization of the railroads of the United States was returned 
to the Interstate Commerce Commission on June 30, 1910, 
at $18,420,000,000 divided about equally between bonds and 
stock. During the year, while interest was paid on practically 
all of the outstanding bonds, dividends were paid on only 
67 per cent of the stock, and the average return on the total 
capitalization was less than 4.4 per cent. Equally modest 
returns are shown for most of the telegraph, long-distance 
telephone and express businesses of the country. To get 
behind figures like the above to a knowledge of the relation 
which earnings bear to actual investment in these enterprises 
is a task that has only been undertaken in a few instances. It 
is undoubtedly true that in many cases these monopolistic 
businesses have proved unprofitable. For them as for other 
monopolies, monopoly profit is a possibility rather than a 
necessity. No matter how complete the monopoly which a 
railroad may enjoy of the traffic of a given section, it cannot 
make this the source of monopoly profit if the section happens 
to be a desert and its traffic only sufficient to employ one 
train a week. It is equally incontestable that many of these 
enterprises have proved enormously profitable. The railroads 
in the older and more prosperous portions of the United States 
have earned immense fortunes for hundreds of different in- 
vestors and speculators and are now paying dividends on 
capital much of which was itself drawn from earnings. The 
enormous earnings which the railroads alone are capable of 
making are illustrated by comparing the figures for recent 
years. According to the reports of the Interstate Commerce 
Commission the net income of the railroads of the country 



INTERSTATE COMMERCE ACT 43S 

increased from $388,000,000 to $517,000,000 and the dividend 
disbursements from $233,000,000 to $283,000,000, from 1909 
to 1910. The $50,000,000 of additional dividends were 
paid for the most part, not by roads which were not yielding 
a fair return on capital invested in 1909, but by those which 
even in that year were making some monopoly profit. If 
to the excess profits of the railroads we add those of the other 
national monopolies referred to, we may assert without ex- 
aggeration that the aggregate return from these sources adds 
its hundreds of millions of dollars to the annual income in the 
United States that is properly characterized as monopoly 
profit. 

§ 240. Efforts on the part of the state legislatures to regu- Failure of 
late railroads in the United States have encountered a very ^*^*^ 
serious obstacle in the clause of the Federal Constitution 
assigning control over interstate commerce to Congress. 
Their power to regulate is limited to the affairs of state 
roads, and these now play a very minor part in the railroad 
business of the country. 

Congress did not bestir itself with a view to regulating rail- The Inter- 
roads engaged in interstate commerce until 1885. In that ^*^*® 
year the Senate appointed a special committee to inquire into . ^ |. 
the evils of railroad management. Its report, submitted the jggy^ 
following year, furnished the basis for the Interstate Com- 
merce Act of 1887. The principal provisions of this im- 
portant measure were the following: (1) discriminations 
among persons, places and commodities were prohibited, and 
railroad officials granting discriminating rates were made 
liable to fine and imprisonment; (2) railway rates for inter- 
state traffic were required to be just and reasonable, and 
any rate not just and reasonable was declared to be unlawful, 
and valid ground for a suit for damages by the injured party; 
(3) railroads were required to publish their rates and to 
change them only on public notice; (4) they were prohibited 
from charging a higher rate for a short haul than for a long 
haul over the same line and under similar circumstances, 
unless authorized to do so by the Interstate Commerce Com- 
mission ; (5) pooling contracts among railroads were pro- 
hibited. The act also created the Interstate Commerce Com- 



434 RAILROAD PROBLEM IN UNITED STATES 



Defects 
in Act. 



Amend- 
ments to 
Interstate 
Commerce 
Act. 



mission and made this commission responsible for its enforce- 
ment. The powers of the Commission were extended by an. 
amending act passed in February, 1891. It may now sub- 
poena witnesses and require testimony, even though such tes- 
timony is incriminating to the witness giving it, and call 
upon assistant attorneys general to bring suit in the name 
of the United States against offending railroads and their 
officials. 

Notwithstanding its large powers the Interstate Commerce 
Commission failed during the first nineteen years of its ex- 
istence to enforce some of the essential provisions of the Inter- 
state Commerce Act. This was due chiefly to defects in the 
Act itself which at important points failed to give the Com- 
mission the powers it needed in order to accomplish the im- 
portant work intrusted to it. 

In interpreting the Interstate Commerce Act the Supreme 
Court of the United States took the ground that the powers 
of the Commission were only those clearly expressed in the 
statute. Thus it decided that while the Commission might 
declare any given rate unlawful because neither just nor 
reasonable, it might not prescribe a substitute rate which would 
be just and reasonable and therefore lawful. The Commis- 
sion's power was therefore limited to condemning prevail- 
ing rates. While in practice this sometimes enabled it by 
repeated rulings to establish the rate it considered fair, it 
caused needless friction and delay. Even more serious were 
the repeated failures of the Supreme Court to sustain the 
Commission in its decisions in reference to rates. This was 
due in part to the policy of attorneys representing the rail- 
roads of withholding important evidence until appeal was 
taken to the United States courts, for the deliberate purpose 
of undermining the authority of the Commission. 

§ 241. The continuance of many of the abuses which the 
Interstate Commerce Act was designed to correct, frankly 
aclmowledged by the Interstate Commerce Commission in its 
successive reports and ascribed by it to the inadequacy of its 
own powers, gave rise to an irresistible public demand for 
such modifications in the law as would put an end to dis- 
criminations and secure truly just and reasonable railroad 



AMENDMENTS 435 

rates. This demand, partially appeased by the passage of the 
so-called Elkins Act in February, 1903, was more completely 
satisfied by the passage of the Hepburn law in June, 1906, 
and the Mann-Elkins Act in June, 1910. Together these 
amending acts confer on the Interstate Commerce Commission 
the power and dignity indispensable to the accomplishment 
of the important task intrusted to it. The principal changes 
in the law resulting from the new legislation are the follow- 
ing: (1) The number of commissioners is increased from five 
to seven and their salaries from $7,500 to $10,000. (2) The 
Commission is given complete control over the methods of 
keeping railroad accounts. (3) The penalties for granting 
discriminatory rates through any possible device or combina- 
tion of devices are made to include imprisonment as well as 
fine and apply not only to the carriers and their responsible 
agents, but also to the favored shippers for whose benefit dis- 
criminations are made. (4) The Commission is authorized 
to secure injunctions restraining railroads believed to be violat- 
ing the law from continuing such violations. (5) Railroads 
are prohibited from moving in interstate commerce any goods, 
other than timber or its manufactured products, which were 
produced directly by itself or indirectly by its authority. 

(6) The railroads are prohibited from changing their pub- 
lished rates except on thirty days' notice to the Commission 
and on receiving such notice the Commission is empowered 
to suspend the operation of the proposed new rates for four 
months — or ten months if necessary — until a full hearing can 
be held and the reasonableness or unreasonableness of the pro- 
posed rates determined. In such hearing the burden of jus- 
tifying a proposed increase in rates rests on the carrier. 

(7) The phrase " under substantially similar circumstances 
and conditions " is eliminated from the " long and short 
haul " clause of the Act of 1887 (Section 240), so that that 
clause now applies without qualification except where the 
Commission expressly permits a departure from its provisions. 

(8) Finally, the Commission is given the coveted right to 
prescribe what rate will be just and reasonable for the future 
when it has decided that an existing rate is unjust and un- 
reasonable, and on terms that greatly lessen the proba- 



436 RAILROAD PROBLEM IN UNITED STATES 



The Short- 
lived 

Commerce 
Court. 



Discrimi- 
nations 
Now 
Prevented. 



Arguments 

for 

National 

Ownership 

and 

Operation 

of Express 

and 

Telephone 

Businesses. 



bility that its decision will be set aside on appeal to the 
courts. 

The Act of 1910 also created a Commerce Court to stand 
between the Interstate Commerce Commission and the Su- 
preme Court and to relieve that tribunal from the necessity 
of passing on much of the litigation that arises under the 
Interstate Commerce Law. As the creation of such a court 
was not approved by the Democratic majority which came into 
control of the House of Representatives a few months after 
it was organized, it remained in existence less than two years. 
The Mann-Elkins Act also provided a commission to report 
on the whole question of the relation of the government to the 
capitalization of the railroads. Notwithstanding the some- 
what negative report of this Commission, Congress further 
amended the Interstate Commerce Act by a law passed in 
March, 1913, which empowers the Interstate Commerce Com- 
mission to make a valuation of the physical assets of the 
railroads as a basis for passing more intelligently on the 
reasonableness of their rates. The arguments for such a valu- 
ation are presented at the close of this chapter. 

Although these important amendments to the Interstate 
Commerce Act are still comparatively new, it seems already 
to be clearly demonstrated that they have succeeded in their 
principal purpose, that is, in putting a stop to discrimination 
in railroad rates. Whether they will be equally successful in 
securing just and reasonable rates must remain open to ques- 
tion so long as there is difference of opinion as to the correct 
basis of reasonable rates (Section 243). 

§ 242. Many thoughtful persons, despairing of a satisfac- 
tory solution of the problem presented by national monopolies 
along the line of federal regulation, advocate national owner- 
ship and operation of these businesses with the same confidence 
that they advocate municipal ownership and operation as a 
remedy for municipal monopolies. The extension of the postal 
business of the United States to include a part of the express 
business, which was advocated with great regularity by many 
successive Postmasters General of the United States in their 
reports to Congress, was finally effected in 1912. Whether the 
parcels post, which is limited to packages weighing twenty 



ARGUMENTS FOR NATIONAL OWNERSHIP 437 

pounds or less, will be extended to embrace every department 
of the express business will doubtless depend upon the effi- 
ciency with which this new branch of the public service is 
administered. The enlargement of the powers of the Interstate 
Commerce Commission to embrace the regulation of express 
companies by the Act of 1906 * puts the government in a 
position to make exact comparisons between public and regu- 
lated private operation of this business. 

Arguments for government ownership and operation, similar 
to those already reviewed, are advanced also with reference 
to the telegraph and the long-distance telephone businesses. 
On the other side, the most convincing argument in favor of 
a continuance of private enterprise in these fields is the 
technical unripeness of these peculiarly modern services. With 
the possibilities of wireless telegraphy still undetermined and 
with important inventions affecting the telephone following 
one another at frequent intervals, government ownership and 
operation of these businesses would seem to be, to say the 
least, premature. That there are solid reasons on the other 
side, however, is indicated by the fact that the Postmaster 
General recommended the nationalization of the telegraph 
business in his report for 1911. 

§ 243. The national ownership and operation of the rail- Arguments 
roads of the United States are an even more ambitious project. . 
In addition to the vastly larger initial outlay that such a , . 

policy would entail and the immense increase of public officials ^nd Opera- 
that would result from it,t there are complexities in the rail- tion of 
way business itself that make the success of government opera- Railroads, 
tion at least problematical. The principal arguments on which 
defenders of the government ownership program rely may 
be summarized as follows: (1) Discriminations would cease 
and in their place general tariffs, published in advance and 

* Sleeping-car companies, switches, spurs, terminals and all vehicles 
of carriage, whether owned by the railroads or not, and pipe-line trans- 
portation companies, except those concerned with water and gas, were 
also made subject to the Interstate Commerce Commission by this 
act, as were telegraph, telephone and cable companies by the Act of 
1910. 

f On June 30, 1910, as many as 1,699,420 persons Avere on the pay 
rolls of the railroads of the United States. During the year preceding 
the railroads expended $1,143,725,306 in wages and salaiies. 



Against. 



438 RAILROAD PROBLEM IN UNITED STATES 

applying to all shippers alike, would prevail. (2) Rates might 
be lower, as the roads would have to earn only the three per 
cent or so on the bonds which the government might issue in 
exchange for them at the time of purchase, in place of the 
higher interest and dividends now demanded by stockholders. 
(3) In the determination of rates broader principles would 
be considered than those on which railway managers base their 
decisions. The railroads would become a great engine for the 
promotion of industrial and social progress. (4) The corrupt- 
ing influence of private railway corporations would be re- 
moved from political life. (5) Such an enlargement of the 
field of government service would alter the feeling which the 
average American has come to entertain for holders of public 
office. A new type would be dra^\^l into the public service 
and the whole plane of official life would be raised until the 
preference would be for it, as has long been the case in Ger- 
many, instead of for private activity. 
Arguments To these optimistic anticipations defenders of private enter- 
prise in the field of railway transportation oppose the follow- 
ing counter-arguments: (1) Rates would become rigid and 
instead of adapting themselves readily to changing business 
conditions, as at present, would force business to adapt itself 
to them, with industrial lethargy and stagnation as a result. 
(2) Loss of efficiency in organization and operation would 
prevent any lowering of rates under government management, 
at the same time that it would cause deterioration as regards 
quickness and convenience of service. (3) Substituting for 
present business principles vague rules in regard to social 
expediency, as guides in the determination of rates, would 
cause confusion without really promoting the ends sought. 
The question as to M^hat constitutes just rates would become 
the favorite theme of demagogues, and even if not allowed 
to influence the rates actually charged, such men would stir 
up public opinion against the government in a way that must 
be detrimental to the public service. (4) The decision of 
rate questions as they affect different sections and of questions 
connected with railroad extensions would inevitably get into 
politics, and injustices even more intolerable than those now 
committed by the privately owned railroads would be practised 



FURTHER AMENDMENTS 439 

for the sake of party advantage. (5) Far from raising the 
plane of public service, adding so enormously to the spoils of 
each national election would confirm the dominance of the 
corrupt party machine and party boss. 

In addition to these partly theoretical and hypothetical ob- Other Con- 
jections, the opponents of national ownership emphasize prac- siderations. 
tical difficulties. European experience is dismissed as incon- 
clusive on the ground that no European country requires more 
than a fraction of the railway mileage needed by the United 
States. The enormous cost of acquiring the present lines and 
the difficulty of deciding where new lines ought to be built 
are urged. Finally the whole proposal is characterized as a 
leap in the dark, when the attempt to regulate the railway 
business through public commissions seems in a fair way to 
prove successful. The last consideration merits most attention 
and is likely to postpone any experiments along the line of 
national ownership until the Interstate Commerce Commission 
has had full opportunity to test its ability to regulate the 
railroads in the public interest with the enlarged powers so 
recently conferred upon it. 

§ 244. Important as is the abolition of discrimination in Further 
rates, it cannot be accepted as a complete solution of the Amend- 
railroad problem. According to our analysis railroads are in 
a high degree monopolistic. As the country becomes more 
densely populated and the volume of traffic grows, the earnings 
of old, established railroads should show a marked tendency 
upward. Unless their charges are regulated by administrative 
decree, they are likely to become increasingly unjust and un- 
reasonable and to afford larger and larger monopoly profits. 
But if the Interstate Commerce Commission is to accomplish 
its task of seeing to it that railroad rates are just and reason- 
able, not merely among themselves, or relatively, but abso- 
lutely, it must have at its command all the data necessary for 
distinguishing the reasonable from the unreasonable. The 
meaning usually attached to the phrase, " just and reason- 
able," in connection with charges is that they shall afford a 
just and reasonable return on the investment. It would be 
impossible at this late date to determine what the original 
investment in railroad property in the United States actually 



ment-s 
Needed. 



440 RAILROAD PROBLEM IN UNITED STATES 

was. The most that can be expected is that the Commission 
shall be enabled to make a fair estimate of the present value 
of the investment on which holders of railroad securities are 
entitled to a return and that it shall have some measure of 
control over the relation between investment and capitaliza- 
tion in the future. The first step toward securing a scientific 
basis for deciding what schedule of rates would be just and 
reasonable for any railroad would seem to be a careful valua- 
tion of the physical property of the railroad whose rates are to 
be regulated. In giving the Interstate Commerce Commission 
power to make such a valuation Congress has somewhat tardily 
(1913) provided the means by which the Commission can carry 
out intelligently the duty imposed upon it by the Act of 1887. 
Although this amendment was bitterly opposed by railroad 
managers, it can hardly be denied that it follows logically from 
the policy of rate regulation by commission to which the Fed- 
eral Government is now fully committed. Nor is there any 
good ground for believing that the carrying out of the plan 
will prove disadvantageous to investors in railroad securities. 
Most of the great railroad systems of the country are now 
conservatively capitalized since the correspondence between 
tangible assets and capital liabilities, which was so often con- 
spicuously absent at the outset, has since been brought about 
either by failure and reorganization, or by an appreciation 
in the value of certain assets, particularly real estate. In 
addition to directing the Interstate Commerce Commission to 
make an inventory of the property of the railroads. Congress 
must also empower that body to control future issues of capital 
stock and thus to determine in the future the capital invest- 
ment on which a return may be justly and reasonably claimed. 
Without such power, the Commission clearly cannot carry 
out the task which the law has all along imposed upon it, that 
is, to see to it that only just and reasonable rates are charged. 
The Future. At the same time that regulation of the railroad industry is 
advanced this further step, a concession should be made to 
railroad managers which they would greatly appreciate. In 
its amended form the Interstate Commerce Act leaves no doubt 
that Congress recognizes the failure of competition to regulate 
railroad rates in the public interest and proposes to secure 



THE FUTURE 441 

such regulation through the Interstate Commerce Commission. 
Under these circumstances there is no longer any justification 
for the sweeping prohibition in the present law of agreements 
as to rates, pooling arrangements, etc. Not only the logic but 
the practical exigencies of the situation demand that the 
Commission be empowered to authorize such agreements among 
the railroads as are not opposed to the public interest and 
that agreements so authorized have the force of legally binding 
contracts. Such a change would facilitate a more economical 
and stable organization of the railway business and also lessen 
the temptation to discrimination. In the opinion of the writer 
these two important extensions of the regulative policy should 
be made as promptly as possible, for only in this way can 
this method of solving the railroad problem be given a fair 
trial. Then, to repeat the words of Judge Knapp, former 
Chairman of the Interstate Commerce Commission, " if regu- 
lation fails, public ownership will be the next and early 
resort. ' ' 

REFERENCES FOR COLLATERAL READING 

*Reports of the Interstate Commerce Commission; Report of the 
United States Industrial Commission, Vols. IV., IX. and *XIX. ; 
* Johnson, American Railway Transportation; * Ripley, Railroads: Rates 
and Regulations, and Railway Problems; *Raper, Railway Transporta- 
tion; Stickney, The Railway Problem; Lewis, National Consolidation of 
the Railways of the United States; Dixon, State Railroad Control; 
Meyer, Railway Legislation in the United States. 



CHAPTER XXV 



TRUST PROBLEM IN THE UNITED STATES 



Definition 
of a Trust. 



Motives 
Behind 
Trust 
Movement. 



§ 245. The species of monopoly next calling for considera- 
tion is that represented by the industrial combinations, or 
trusts, which we have characterized as " capitalistic monopo- 
lies." As now used in the United States the term " trust " 
applies to any industrial combination which is so large as to 
be the dominant factor in the branch of production with which 
it is concerned. Many such combinations are not, of course, 
monopolies. Inasmuch, however, as their main purpose accord- 
ing to the unanimous testimony of their promoters is to escape 
the wastes of competition, monopoly may be said to be the goal 
at which they are aiming. AA^e may define a trust, therefore, 
as an industrial combination, not a legal nor natural monopoly, 
which seeks to throw off the restraifits and avoid the wastes 
of competition hy absorbing, controlling or forcing out of busi- 
ness its would-be competitors. 

The psychology of the combination movement is easy to 
understand. From the point of view of the competitors in 
any line of business, competition is an evil rather than a bless- 
ing. It tends to lower prices when the interest of each in- 
dividual competitor demands that they be maintained. It has 
been too customary in economics to argue as though the only 
motive of the enterpriser were to enlarge the volume of his 
business. Quite as strong is his desire to receive high prices 
for his products. AVhen producers are numerous and widely 
scattered and competition among them is active, the individual 
enterpriser must perforce content himself with such price as 
the market affords, and give most of his thought and attention 
to keeping down his expenses of production by developing his 
business to the size most conducive to efficiency. This last aim 
often leads him to cut prices in the hope of enlarging his sales, 
and is the force on which economists rely when they assert 

442 



EARLY TRUSTS 443 

that competition tends to keep prices down to the expenses 
of production of representative firms. Such is the situation 
in all branches of business in which small-scale production is 
the rule. Another situation is that in which a business is 
already concentrated into a few highly organized and shrewdly 
directed plants and in which the nature of the product, a pro- 
tective tariff, or some other barrier, excludes foreign competi- 
tion. Competition among such great industrial plants may 
persist, and each enterpriser may continue to seek to derive 
his profit by producing more cheaply and underselling his com- 
petitors. But competition is a wearing process. It is quite 
as likely that the competitors may agree to combine their - 
plants and seek for profit, not through underselling one an- 
other, but through maintaining a remunerative price for their 
common benefit. If to this immediate advantage of combina- 
tion be added the prospect that through it the expenses of 
production may be lowered and the competition of firms not 
in the combination suppressed, its attractions so far exceed 
those of continued independence that a trust is almost certain 
to be formed. As a well-known trust organizer expressed it, 
in words originally applied to the railroad business, " where 
combination is possible competition becomes impossible." 

§ 246. The first industrial combination in the United States The Early 
was the Standard Oil Trust, formed in 1879 and continued trusts, 
in modified form in 1882. This was a union of oil refineries 
in Ohio, Pennsylvania and New York, brought about by the 
assignment of the stock of these companies to a board of nine 
trustees who- in this way secured complete control of the 
business. These trustees issued trust certificates in exchange 
for the shares of stock assigned to them and agreed to pay 
all dividends declared on such stock pro rata to the holders 
of these certificates. This was, in a literal sense, a " trust," 
and from it all later combinations have derived their rather 
misleading name. Similar trusts were organized by leading 
sugar refiners and whisky distillers in 1887. In 1890 and 
1892, in suits involving the Sugar and Standard Oil Trusts, 
respectively, the courts of New York and Ohio declared this 
form of organization illegal. The organizers of the Sugar 
Trust lost no time in securing a charter from the state of 



444 TRUST PROBLEM IN THE UNITED STATES 



History 
of the 
American 
Trusts. 



New Jersey for a single corporation, the American Sugar Re- 
fining Company, which should absorb the plants which had 
formed the Trust. The certificate-holders of the Standard 
Oil Trust followed a different plan. Instead of creating one 
corporation, the trustees, who happened to be the owners, in- 
dividually, of a majority of the stocks of the companies form- 
ing the trust, divided up the shares of these companies among 
themselves in such a way that they continued to control them 
as completely as they had under the trust agreement. This 
arrangement was continued until 1899, when the capital stock 
of the Standard Oil Company of New Jersey was increased 
sufficiently to permit an exchange of its shares for shares in 
the other Standard Oil companies. Thereafter until it was dis- 
solved by order of the Supreme Court in 1911 the Oil Trust 
existed as a great holding company. The usual forms of trust 
organization have thus come to be the single corporation, own- 
ing outright the properties controlled, and the holding com- 
pany. 

§ 247. From the time of the organization of the Standard 
Oil Trust until January 1, 1898, the progress of the trust 
movement was slow. In that period, according to a reliable 
tabulation, 82 combinations were organized with a capitaliza- 
tion slightly over $1,000,000,000. During the next few years 
there occurred a veritable stampede among the managers of 
businesses of all kinds to enter into combinations. According 
to the same tabulation from January 1, 1898, to January 1, 
1904, 236 combinations were formed with a capitalization of 
over $6,000,000,000. Among the combinations of this second 
period the most important was the United States Steel Cor- 
poration, the " largest corporation in the world." Its capi- 
talization was $1,400,000,000, of which $304,000,000 was in 
bonds and the rest, in about equal proportions, in common 
and preferred stock. Not all of the capitalization of the 
combinations of the second period should be added to that of 
the first period to determine the total capitalization of the 
trusts of January 1, 1904. Some of the trusts failed. Others, 
like the Steel Corporation, were formed by combining smaller 
earlier trusts. Allowing for all deductions and for the capi- 
talizations of the few trusts organized since 1903, it is safe to 



REASONS FOR ORGANIZATION 445 

estimate the combined capital of the trusts on May 15, 1911, 
before the process of dissolution by order of the Supreme Court 
was begun, at $6,000,000,000. Of this capitalization not over 
10 per cent was in the form of bonds, a circumstance that 
explains the ability of some of these combinations, like the 
International Mercantile Marine Company, to continue their 
corporate existence, notwithstanding their almost complete 
failure to realize the expectations of their organizers. 

§ 248. The remarkable progress of the trust movement after Circum- 
January 1, 1898, suggests a connection between it and the stances 
contemporaneous revival of business prosperity. What that Qj.„anj^j^g^^, 
connection was is easily explained. The motives which led tionof 
manufacturers to enter the trusts were the desire to escape Trusts, 
the wear and tear of competition and to realize the economies 
of combination. By themselves these motives lost rather than 
gained in strength with the revival of prosperity. Working 
with them, however, was the motive of the stock operator. 
Promoters, underwriters and '' insiders " generally, wished 
to realize profits from the sale of new securities on a buoyant 
stock market. These were the men who were most active in 
bringing about the combinations. The country had just passed 
through four years of serious business depression. Failures 
had been common, and even firms which had succeeded in 
avoiding bankruptcy had felt to the full the pressure of a 
relentless competition. It was in this period that the phrase 
' ' competition is the death of trade ' ' became current and that 
the benefits of ' combination as exemplified in the successful 
trusts, the Standard Oil Company, the American Sugar Re- 
fining Company and the American Tobacco Company, were ex- 
tolled. There seemed no reason why similar combinations 
might not be effected with equal success in other branches of 
business. The favorable mental attitude of business managers 
was paralleled by a very hopeful feeling on the part of the 
investing public. After the long years of depression, the rich 
returns to agriculture and other branches of industry en- 
joyed in 1897 set free a large surplus for investment. There 
was thus a ready welcome for the new securities of the in- 
dustrial combinations. 

Several of the combinations organized in 1898 resulted 



Promoter. 



446 TRUST PROBLEM IN THE UNITED STATES 

The Role from the activity of energetic manufacturers in whom their 
of the ^ associates and former competitors had confidence. They were 
literally " combinations " of former competitors, spontane- 
ously entered into for mutual advantage. As time went on, 
however, it became more and more the rule for combinations 
to be effected by professional promoters, who made up for 
their ignorance of the practical details of the businesses that 
they proposed to unite by their knowledge of finance and their 
skill in persuading others of the merits of their plans. The 
method usually pursued by the professional promoter was as 
follows: The leading competitors in the selected branch of 
industry were first persuaded that combination would be a 
good thing for the trade as a whole and induced to give their 
assent to the general plan of organization. This task was 
usually easy. Expert appraisers were then set to work to 
determine the cash value of the plants to be combined. Armed 
with information so obtained, the promoter had next to bar- 
gain with the owners of the different plants to determine the 
terms upon which they should enter the combination. Mean- 
time, a charter was secured, usually from the state of New 
Jersey, authorizing a certain aggregate issue of common and 
preferred * stock, and arrangements were made with some pri- 
vate banking or trust company to finance the undertaking. 
The arrangement between promoter and underwriter was usu- 
ally that preferred stock to a certain aggregate amount should 
be taken at a certain price and paid for in cash, as this might 
be required. To this preferred stock might be added, as a 
bonus, an equal or even a larger amount of common stock. 
Besides the cash needed to purchase the plants of reluctant 
owners, the promoter usually required money in the treasury 
to insure the initial success of the combination. This also 
was secured from the underwriter. The promoter's own profit 
might come in the form of cash received from the underwriting 

* Preferred stock is stock which enjoys a preference as regards both 
dividends and assets. The rate of dividend to which it is entitled must 
be paid before any dividend can be declared on the common stock. 
Frequently the preferred dividends are made '"cumulative," that is, 
when unpaid in any year, they constitute a prior lien upon the earnings 
of the company in succeeding years, and must be fully met before any 
dividends can be declared on the common stock. 



BUSINESS SUCCESS 447 

syndicate, or in the form of stock in the new enterprise, to be 
held or sold as his judgment might determine. How largely 
it was sometimes necessary to over-capitalize a combination, 
in order to satisfy the demands of all those connected with 
it, is illustrated by the case of the Whisky Trust. According 
to testimony presented before the Industrial Commission, for 
each $100,000 cash value of the plants taken into the combina- 
tion $100,000 preferred stock and $100,000 common stock went 
to the owner, $150,000 common stock went to the promoter, 
and $100,000 preferred and $150,000 common went to the 
underwriter, the latter being required to furnish a certain 
amount of cash to serve as the working capital of the enter- 
prise. Professor Jenks calculates that the promoters and 
underwriters of the trust received $10,700,000 in preferred 
and $13,360,000 in common stock, in exchange for $3,500,000 
in cash. What their profits were it is impossible to say, but 
judging from the quotations for the stock immediately after 
the combination was launched, they probably amounted to 
several million dollars. In another case, that of the Tin Plate 
Trust, evidence was presented before the Industrial Commis- 
sion showing that the promoter received $10,000,000 in com- 
mon stock for his services, and that he probably realized 
$2,000,000 to $3,000,000 profit from the undertaking. These 
facts indicate the motives of the promoters and underwriters 
and account for their activity in bringing the trusts into being. 

§ 249. That the organization of many of the trusts was not Facts as to 
in response to any legitimate business need has been shown Business 

by their financial results. Of the 183 industrial combinations ^^^^''^^^ ° 

■^ . Trusts, 

investigated by the Census Bureau in 1900, but 121 had paid 

dividends. Moreover, of the ninety-two paying dividends on 
their preferred stock, only thirty had paid also on their com- 
mon stock. Thus one-third of the total number paid no divi- 
dends at all and another one-third paid no dividends to 
common-stock holders. Nor has this showing been greatly im- 
proved in the years that have elapsed since 1900. An in- 
tensive study of the thirty largest trusts which were organ- 
ized prior to January 1, 1904, shows that, while eight have 
been phenomenally successful and seven moderately success- 
ful, ten have proved unsuccessful and five have been disastrous 



448 TRUST PROBLEM IN THE UNITED STATES 



The Highly 

Successful 

Trusts, 



Reasons 
for This 
Success: 
Efficient 
Organiza- 
tion. 



failures. As half of the largest trusts thus failed to realize 
the expectations — to say nothing of the promises — of those 
who organized them, so half or nearly half of all of the 
trusts, large and small, have showed disappointing results 
as business enterprises. NotM'ithstanding the limited bonded 
indebtedness with which most of them started, more than a 
score have failed outright or been forced to reorganize in con- 
sequence of the gross discrepancies between their capitaliza- 
tions and their realized earnings. 

The failure of many of the trusts serves, however, only to 
set out in stronger relief the sensational success which some 
of them achieved. Thus the Standard Oil Company of New 
Jersey after it took over the subsidiary companies of the Oil 
Trust in 1899 and up to the time of its dissolution paid the 
following dividends on its capital of approximately $100,000,- 
000: 1900 and 1901, 48 per cent each year; 1902, 45 per cent; 
1903, 44 per cent ; 1904, 36 per cent ; from 1905 to 1910, 40 
per cent annually; 1911, 37 per cent. The American Tobacco 
Company was almost equally successful, but frequent changes 
in its capitalization make the history of its dividend payments 
too complicated a story to be told here. The American Sugar 
Refining Company paid 4 per cent on its common stock in 
the year of its organization. The following year, 1892, it paid 
101 per cent; in 1893, 21i per cent; from 1894 to 1899, 
12 per cent annually; in 1900, 7f per cent; from 1901 to 
1912, 7 per cent annually. This company has also paid regu- 
larly 7 per cent on its preferred stock. Comment on the above 
showing is hardly necessary. Even on the assumption that all 
three of these enterprises were conservatively capitalized at 
the outset — and this is true of only the first of them — their 
success far exceeds anything to be met with on the same scale 
in the annals of competitive business. 

§ 250. Some light is thrown on the reasons for the remark- 
able success of certain of the trusts, in face of the complete 
failure of others, by a study of the economies with which they 
are credited. In addition to the general economies resulting 
from large-scale production already discussed (Section 93), 
there are special advantages which pertain to combinations. 
One consideration favorable to the trusts is that after the first 



REASONS FOR SUCCESS 449 

step separating the individual firm from the corporation with 
a salaried president or manager has been taken, there need be 
no increased loss of efficiency as the business grows. Since 
reliance for the direction of the enterprise must be put in 
any case in salaried employees, it makes little difference 
whether these employees are few or many. An able president 
may hold the managers of the individual plants over which 
he has general supervision to as strict account for the efficient 
performance of their duties as that to which the directors hold 
him himself. The larger the enterprise the larger is the salary 
which it can afford to pay to its responsible manager and the 
abler, presumably, the manager whose services it can command. 
It follows, it is claimed, that instead of losing in efficiency 
on account of its size, a trust gains in efficiency. The truth 
of this contention depends obviously upon whether the higher 
salary paid by a trust to its chief executive really secures a 
higher grade of ability. The three combinations which have 
succeeded most brilliantly have, undoubtedly, been directed 
with remarkable skill and foresight. They have devised plans 
for securing the loyal cooperation of their thousands of em- 
ployees, and have selected for important positions the best 
men to be had for the tasks assigned them. The phenomenal 
success of the Carnegie kSteel Company before it was merged 
into the Steel Trust furnishes an example of what may be 
achieved through organization. As the result of thought and 
experiment, Mr. Carnegie and his associates devised methods 
by which every employee in every department of the business, 
from highest to lowest, was made to feel as keen an interest 
in the result of his day's work as though he were to be the 
sole beneficiary from it. High wages and salaries were paid, 
and the prospect of still higher remuneration was held out 
to all who could increase their productiveness. The result was 
a business which, in spite of its huge proportions — its earnings 
were $70,000,000 in a single year— compared in efficiency in 
every department with any other enterprise, large or small, 
to be found in that branch of industry. But the same cir- 
cumstances that enable efficient chief executives to contribute 
so largely to the success of trusts increase the power for in- 
jury of inefficient managers. The presidents of the highly 



450 TRUST PROBLEM IN THE UNITED STATES 



Economy 
in Sale of 
Products. 



Saving^ 
in Cross 
Freights. 



successful trusts have been willing to devote their unusual 
abilities to the great enterprises with which their names are 
identified because these were, in a real sense, their enterprises. 
The services of such men cannot be secured by the mere 
payment of high salaries. It is here that a serious obstacle 
to the permanent success of great industrial combinations is 
encountered. The few men who have the ability to direct such 
vast enterprises are increasingly in demand, and the chance 
that a board of directors which has chosen a president wisely 
once will do so every time the office has to be filled, is small. 

A more constant advantage of trust organization is economy 
in connection with the sale of products. A large part of the 
expenditure for advertising, traveling salesmen, etc., neces- 
sary to success in competitive businesses, is necessary simply 
because of the competition. The sale of whisky and tobacco, 
for instance, is probably not increased materially by the hun- 
dreds of thousands of dollars expended annually on adver- 
tising. The sale of particular brands, however, is increased. 
A combination which unites all of the plants producing differ- 
ent brands under one management dispenses with the need 
for competitive advertising. The more complete the monopoly 
of the combination the more fully, obviously, it may economize 
in this department of its business. The testimony in regard 
to the trusts obtained by the Industrial Commission of 1902 
teems with illustrations of this species of economy. Other 
ways in which combination lessens expenses in selling goods 
were also brought out by different witnesses. Thus, the prac- 
tice of giving premiums may be discontinued, as also that of 
granting credit to customers whose business standing is doubt- 
ful in order to retain their trade. 

A third advantage, especially in connection with trusts pro- 
ducing bulky articles, is a saving in cross-freights. An officer 
of the American Steel and Wire Company told the Industrial 
Commission that his company saved, by having plants at dif- 
ferent points, at least $500,000 a year on its freight bill. 
This advantage does not apply, of course, as against local 
competitors who aim to sell only in the local market. 

A fourth advantage is that trusts can adjust the output 
of their plants to the irregularities of the market better than 



of Produc- 
tion to 
Demand. 



ILLEGITIMATE PRACTICES 451 

smaller producers. Not only are they in a position to get a Better 
broader view of market conditions, but they may organize Adjustment 
their different plants so that those in the smaller places, 
where the labor supply is less steady and reliable, may be 
run continuously, while those in large cities may be run or 
shut down as the conditions of the market demand. Thus, the 
American Sugar Refining Company is said to have used its 
Brooklyn refinery as a sort of safety valve to its business. 
When the demand for sugar is active and the trust is under- 
stocked, its rate of production can be largely increased at very 
short notice by running this refinery at top speed. In the 
face of adverse conditions a curtailment of production is 
equally easy. 

Among minor advantages claimed for the trusts is the Other 
ability to satisfy the different tastes of consumers by offering ^.easons. 
a varied stock of goods. This is believed to have been an 
important circumstance in connection with the success of the 
American Tobacco Company. A similar advantage is ability 
to supply on demand a practically unlimited quantity of any 
good. It has been stated that the American Sugar Refining 
Company has been able at times to get one-eight of a cent a 
pound more for its sugar than its competitors because jobbers 
prefer to order where they can be sure of securing at once all 
that they require. These various advantages which con- 
tribute in greater or less degree to the success of the trusts 
may be called legitimate, because they enable the trusts to 
perform the same sei'vices for the public more cheaply than 
could competing independent companies. 

§ 251. Critics of the trusts charge them with three lines of Illegitimate 
policy thr.t are squarely opposed to the general interest and 
therefore illegitimate. They are said to have obtained dis- 
criminating rates from the railroads in defiance of the Inter- 
state Commerce Act, to have taken advantage of their national 
position to cut prices at certain points in order to stifle com- 
petition while recouping themselves by maintaining prices at 
non-competitive points and finally to have made unfair con- 
tracts with jobbers and retailers under which such dealers 
boycott the products of independent producers. 

The trust which was most widely accused of securing special 



Practices 
of the 
Trusts. 



452 TRUST PROBLEM IN THE UNITED STATES 



The Stand- 
ard Oil 
Company's 
Advantages 
in Trans- 
portation. 



Discrimi- 
nation in 
Prices. 



favors from the railroads was the Standard Oil Company. 
That such favors were commonly enjoyed prior to the enact- 
ment of the Interstate Commerce Act was admitted even 
by officers of the Company. An exhaustive report on the 
Transportation of Petroleum, published in 1906 by the Com- 
missioner of Corporations, indicates that similar favors, dis- 
guised in various ways, continued to be extended by the rail- 
roads down to the very time that this investigation was made. 
In addition, the large scale of its operations gave the Standard 
Oil Company many special advantages over its competitors. 
In the first place it had secured control of most of the im- 
portant pipe lines conveying crude petroleum from the wells 
to the points where it was refined. Operators of pipe lines are 
now restrained by the law which requires common carriers to 
accord equal treatment to all shippers, but it is claimed that 
prior to 1906^ when this change in the law was made, the 
Standard Oil Company persistently discriminated in its own 
favor. It is so much cheaper to pipe oil than to ship it by 
rail that control over the pine lines gave it a marked advantage 
over its competitors in many of the most important markets 
of the country. Again, in consequence of the large scale of 
its operations the Standard Oil Company was able to maintain 
a full equipment of tank cars, receiving tanks and tank wagons, 
and it is alleged, although it cannot be said to have been 
proved, that the tank cars of the Company were sometimes 
underbilled so that the actual was considerably below the 
nominal rate. Obtaining discriminatory freight rates has 
been proved against the Sugar Trust also. In fact enough 
evidence of discrimination in favor of the trusts has come to 
light to make it certain that this was one of the important 
factors in their success until as late as 1906. Not until the 
laws of that year and of 1910 effectively put a stop to such 
discrimination did competition between the trusts and their 
smaller rivals begin to be on fair terms so far as railroad 
transportation expenses were concerned. 

Equally definite evidence is forthcoming in reference to the 
second charge, that is, that the trusts cut prices in local 
markets to kill competition, while they maintained or raised 
them in markets where there was no competition. The In- 



NATIONAL CASH REGISTER COMPANY 



453 



dustrial Commission made an exhaustive inquiry into the 
wholesale and retail prices paid in different towns in different 
parts of the United States for petroleum, sugar and baking 
powder in 1901. As a result of this inquiry it seems to be 
established beyond question that the Standard Oil Company 
charged different prices for the same product at different 
points, depending upon the intensity of competition. Inquiry 
in reference to the price-making practices of the other trusts 
was less conclusive. Direct interrogation of some managers 
indicated, however, that the practice of making special prices 
to fit special localities was not only common, but that it was 
looked upon as entirely proper and defensible. Since it is 
certainly the policy best calculated to advance the business 
success of the trusts and since it has only recently been ex- 
pressly condemned in any jurisdiction, it would really be 
matter for surprise if the practice had not been widespread. 

The third charge, that is, that some of the trusts constrained 
jobbers and local dealers to boycott other products, cannot be 
said to have been proved in any large number of cases. This 
was probably due, however, to the difficulty of getting the 
interested parties to testify, rather than to the infrequency 
of such practices. 

The specifications in the indictment against the National 
Cash Register Company on the basis of which twenty-seven 
of its officers were found guilty by a jury in February, 1913, 
and sentenced not only to pay fines but to serve terms in jail 
indicate in a concrete way the kind of practices in which some 
of the trusts engaged. They were : 

1. It bribed the employees of competitors to reveal the 
secrets of the competitors ' business. By this means it obtained 
knowledge of prospective buyers of cash registers, of cus- 
tomers who had ordered cash registers, of those who had pur- 
chased them but had not yet fully paid for them, of the 
volume of business being done by the competitors and the 
places in which it was being done, of inventions and applica- 
tions for patents by the competitors, and of their financial 
condition and connections. 

2. It bribed the employees of truckmen, express companies, 
railways, telegraph and telephone companies, to reveal in- 



Unfair 
Methods of 
Competi- 
tion 

Charged 
Against the 
National 
Cash 
Register 
Company. 



454 TRUST PROBLEM IN THE UNITED STATES 

formation in regard to the shipping of cash registers by com- 
petitors, and in regard to communications between the com- 
petitors and their agents and customers. 

3. It used its influence and the influence of its agents with 
banks and other institutions, sometimes going to the extent 
of making false statements, to injure the credit of competitors 
in order to prevent their securing money for carrying on their 
business. 

4. It required its sales agents to interfere in every way 
possible with the sales of competitive cash registers. The 
means which it instructed its agents to use included the mak- 
ing of false statements with regard to the cash registers 
themselves, as well as false statements reflecting injuriously 
upon the business character and financial credit of its com- 
petitors. 

5. It offered to sell to prospective purchasers of competitive 
cash registers the National's machines at much less than the 
standard prices and upon unusually favorable terms. 

6. It induced persons who had already ordered competitive 
cash registers to cancel their orders and purchase from the 
National, by, among other things, making further reductions 
in the price of the National registers equivalent to the amount 
already paid on the purchase of the competitive cash registers. 
It induced persons who had already bought other cash regis- 
ters to exchange them, for machines of the National, where- 
upon it exhibited in the windows of stores where the National 
cash registers were for sale these machines of competitors 
bearing placards with, for instance, the word " Junk " printed 
on them, or, in other cases, with the words " For Sale at 
Thirty Cents on the Dollar " on them. 

7. It offered for sale to prospective purchasers of other 
cash registers, cash registers made in imitation of those 
others, and at a price not only much lower than the regular 
price of the other cash registers, but in some cases much less 
than the manufacturer's cost. The cash registers which were 
thus offered for sale in competition were known as " knock- 
ers." The manufacture of a particular type of " knocker " 
was discontinued as soon as its use was no longer necessary. 

8. It sometimes offered for sale " knockers " having weak 



CONCLUSION 455 

and defective mechanism. This practice had two purposes. 
It enabled the sales agent to point out the weak and defective 
mechanism and to claim that the competitive cash register 
had the same shortcomings. It also enabled him, in case the 
customer insisted upon purchasing the " knocker," to per- 
suade the customer to purchase a genuine National machine 
when the " knocker," as was inevitable, speedily broke down. 

9. It instructed its sales agents secretly to weaken and in- 
jure the interior mechanism and to remove and destroy parts 
of competitive cash registers in actual use by purchasers when- 
ever they could get their hands upon them. The object of 
such instructions was obviously to cause the purchaser of a 
competitive cash register to become dissatisfied and to turn 
to the National to replace it. 

10. It threatened competitors and purchasers of competitors' 
machines with suits for infringement of the National's patent 
rights, when, as it well knew, no such patent right existed, and 
no such suit was contemplated or would really be begun. 

11. In other cases it began suit against competitors and 
against purchasers of competitive cash registers for infringe- 
ment when it knew well that there was no ground for such 
suits and when there was no intention of pressing the suits 
beyond the point necessary to harass the competitors. 

12. It organized cash register manufacturing concerns and 
sales concerns ostensibly as competitors of itself, but in fact 
as convenient instruments for gaining the confidence and ob- 
taining the secrets of competitors. 

13. It induced, by offers of largely increased compensation, 
the agents and employees of competitors to leave the employ- 
ment of the competitors to enter that of the National. 

14. It applied for patents upon the cash registers of com- 
petitors and upon improvements upon those cash registers 
merely for the purpose of harassing the competitors by in- 
terference suits and threats to institute such suits. 

It needs no extended argument to prove that a trust re- Conclusion 
sorting to the kinds of competition described above might as to Public 
make its position well-nigh impregnable, so long as its com- Policy, 
petitors were widely scattered over the country and prevented 
by distance and fear of complete extermination from uniting 



456 TRUST PROBLEM IN THE UNITED STATES 



The Trusts 
and the 
Tariff. 



effectively to oppose the common enemy. Such practices are 
as demoralizing in their influence upon business and the 
standards of business morality as are discriminations on the 
part of the railroads of the country, and like railroad dis- 
criminations they should be prevented at whatever cost to the 
government. 

§ 252. The view expressed in the late H. O. Havemeyer's 
striking phrase, " the protective tariff is the mother of the 
trusts," recalls another possible advantage enjoyed by these 
combinations. His argument was that the higher duties 
charged on many products in the tariffs of 1883, 1890 and 
1897 permitted a margin of profit to domestic producers which 
encouraged a reckless duplication of plants and ruinous com- 
petition. It was to escape these that, in his view, trusts were 
organized. If the tariff had not assured immunity from 
foreign competition, no one would have cared to embark his 
capital in them. Once established, as a result of the artificial 
conditions created by the tariff, the trusts enjoyed advantages 
over their competitors whenever that tariff was changed, 
through their more intimate acquaintance with what was go- 
ing on in Washington and larger capital with which to take 
advantage of the changes that were foreseen. 

That some of the trusts in the United States have been en- 
couraged and fostered by the protective tariff few will deny. 
It is even probable that some of them have grown up in 
industries which would not have flourished at all but for 
the tariff. Others, doubtless, would not have been established 
had not the tariff been high enough to protect them from 
foreign competition. At the same time it is equally certain 
that many of the trusts have been organized in industries that 
are in no wise dependent upon the tariff. Some of these, 
notably the Standard Oil Company, have enjoyed greater 
success for a longer period than any of the tariff-made trusts. 
If further proof of the independent origin of trusts is needed 
it may be found in free-trade England, where trusts are com- 
mon although undoubtedly less numerous than in the United 
States. Mr. Havemeyer's dictum ought probably to be 
changed to the statement that " the tariff was the mother of 
some trusts." Wherever such maternity can be established a 



OVER-CAPITALIZATION 457 

modification of the tariff may prove a sufficient means of 
control, but it is also true that some of the tariff-made trusts 
have outgrown their leading strings and have now little to 
fear from foreign competition. 

§ 253. Among other evils charged against the trusts, three Other 
merit special attention: they are over-capitalized; they exert ^"^ils: 
a corrupting influence on our political life, and they demand 
excessive prices for their products. Evidence has already been Over-capi- 
given (Section 248) of the tendency to over-capitalization. *alization. 
Trust organizers themselves did not deny that the combina- 
tions were capitalized often for two or three times the value 
of the tangible property which went into them, but they justi- 
fied such over-capitalization on the ground that, in addition to 
this tangible property, there were patents, the good will of the 
business and the probable appreciation of certain kinds of 
property, such as mineral lands, to be considered. In their 
opinion the proper basis of capitalization is not tangible assets 
but earning power. Others go even further. Frankly ad- 
mitting the over-capitalization complained of, they take their 
stand on the proposition that over-capitalization injures no 
one. They argue that it is indifferent whether the nominal 
capitalization of a business is $1,000,000 or $2,000,000. If in 
the first case its stock is quoted at par, in the last case, they 
assume, it will be quoted at 50 per cent of par, and the only 
result will be that two shares are regarded as one share would 
have been, had the capitalization been more conservative. 
Such apologists for over-capitalization overlook important as- 
pects of the question. While it is true that if all of the facts 
in the case were known to all of the parties interested, it 
would make little difference what the nominal capitalization 
might be, this is far from true when, as is usually the case 
with the trusts, knowledge of the essential facts is confined to 
a small group of directors. At least three evils may be traced 
to over-capitalization. It makes more easy the wholesale swin- 
dling of the investing public which still believes, in spite of 
many sad experiences, that the par value of a share of 
stock bears some relation to its real value. It invites the 
deception of officials charged with the enforcement of tax 
laws. "When nominal capitalization throws no light on the 



458 TRUST PROBLEM IN THE UNITED STATES 

value of corporate property for purposes of taxation, there is 
every opportunity for those interested to deceive assessors 
as to the real value that ought to be taxed. Finally, it en- 
courages mismanagement on the part of the company itself. 
However much the stock of a company may be watered, it is 
but natural that its responsible officers should desire to pay 
dividends. In the effort to perform this often impossible task 
they are apt to adopt lines of policy of which they would not 
have thought had the business been conservatively capitalized 
and only reasonable earnings demanded of it. In the case of 
the trusts such mismanagement has injured the public as well 
as stockholders in the enterprises affected. 
Political The second evil, that is a corrupting influence on political 

Corruption, jj^^^ -^ ^^ ^^ means confined to the trusts, but with them it 
assumes special significance. Trust managers have been ac- 
cused of infiuencing legislation through contributions to cam- 
paign funds, of securing the election or appointment of officials 
favorable to their interests and of attempting to bribe attor- 
neys general to refrain from enforcing anti-trust acts and even 
to corrupt the courts charged with the interpretation and 
enforcement of adverse laws. Proof of these accusations is 
rarely forthcoming, but this is believed to be rather because 
those possessing such proof have had every interest to with- 
hold it than because the accusations were altogether un- 
founded. As the control of the trusts and the railroads of 
the country comes to be concentrated in fewer and fewer 
hands, their corrupt political influence is only too likely to 
increase unless vigorous steps are taken to curb it. 
^°"°P°^^^" The claim that the trusts charge excessive prices for their 
products is also difficult of direct proof. So many and such 
diverse influences affect the prices of commodities that it is 
almost impossible for those unfamiliar with every detail of 
the business concerned to judge whether a given price is or 
is not excessive. Notwithstanding these difficulties, an in- 
teresting investigation into the influence of the trusts on prices 
was made by Professor Jenks on behalf of the Industrial 
Commission. His conclusions were, on the whole, distinctly 
adverse to the contention of trust apologists that they reduced 
prices in consequence of the great economies they were able 



tic Prices. 



MONOPOLISTIC PRICES 459 

to realize. In the most notable instance of lowered prices 
under trust management, that of refined oil, it appeared that 
the reduction was less, on the whole, than the decline in the 
price of crude oil, and consequently that the margin retained 
by the trust to cover its expenses of production and profit 
was larger than it had been before the trust was organized. 
The dividends paid by the Standard Oil Company afford in- 
direct support to this conclusion. Another case carefully in- 
vestigated was that of refined sugar. Here it appeared that 
the margin between the price of the raw and the refined 
product fluctuated, but that, on the whole, the margin was 
reduced only as competition on the part of independent re- 
finers became severe, and that as soon as a new combination 
was effected it w^as increased so as to afford larger profits 
to the trust. Inconclusive though the above evidence is, its 
trend harmonizes with what was to be expected on general 
principles. The trusts were organized for profit. One of 
the advantages claimed for them by their promoters was con- 
trol over prices. To the extent that they exercised monopoly 
powers, self-interest would lead them to obey the principles 
governing monopoly price. When economies in production 
did really result from their form of organization, they might 
find it advantageous not to raise prices, or even to lower them 
somewhat, in order to enlarge the volume of their sales, or 
to discourage competition. They would not, however, find it 
to their interest to lower prices to a point which deprives 
them entirely of monopoly profit, as competitive businesses 
are forced to do by the stress of competition. It may be 
concluded that the desire of the trusts was to maintain prices 
at a monopoly level, and that if they failed to do so it was 
because they had not the monopoly powers claimed for them 
by their organizers. What the effect ef trusts generally upon 
prices may be is thus bound up with the question as to whether 
the trusts generally succeed in actually controlling the 
branches of production in which they are organized, or 
whether they are promoters' enterprises, which make little 
real difference in the competitive situation. It is quite clear 
from the earnings of some of the trusts that they maintained 
prices comfortably above their expenses of production. The 



460 TRUST PROBLEM IN THE UNITED STATES 



of Trust 
Problem in 
the United 
States. 



small earnings of others are equally eloquent proof of their 
failure to control the prices on which their success depended. 
Obstacles § 254. Attempts to correct by means of legislation the 

to Solution abuses charged against the trusts have encountered a familiar 
obstacle in the United States — constitutional limitations on 
the legislative power. Under the American form of gov- 
ernment control over industrial enterprises is shared between 
Congress and the state legislatures. The Constitution of the 
United States provides that Congress shall have control over 
commerce among the states. In interpreting this clause, the 
Supreme Court has defined interstate commerce as " inter- 
course and traffic between the citizens or inhabitants of differ- 
ent states," including " not only the transportation of per- 
sons and property and the navigation of public waters for 
that purpose, but also the purchase, sale and exchange of com- 
modities." It has further held that a failure on the part of 
Congress to regulate such intercourse and traffic in a par- 
ticular way is to be taken as a declaration that such regula- 
tion is deemed inexpedient, and that the states are therefore 
debarred from interference. With equal definiteness the court 
has indicated what is not included in interstate commerce. 
It has said very clearly that the business of manufacturing, 
among other things, is not so included. As a consequence 
of the interstate commerce clause of the Federal Constitution, 
and the interpretation given it by the Supreme Court, the 
states were unable to control the trusts through state laws and 
it was long uncertain whether Congress would be able to do 
so through federal legislation. The states have, of course, 
full power to control manufacturing operations carried on 
within their borders, but they have no right to interfere 
with any interstate commerce in which manufacturing cor- 
porations may be engaged. Thus a state can prevent a cor- 
poration, organized as a trust, from carrying on manufactur- 
ing within its limits, but it cannot prevent a corporation 
having its plants in other states from shipping its goods 
to dealers within the first state and selling them, as this 
would be an interference with interstate commerce. Under 
these circumstances, effective control of the trusts by the 
states could only be secured when all were ready to unite 



THE SHERMAN ACT 461 

on similar laws having this object in view. Up to the present 
time little progress toward such united action has been made. 
As an offset to the drastic anti-trust laws of some of the 
states, others and notably New Jersey,* Delaware, Maine and 
West Virginia, have deliberately liberalized their corporation 
laws so as to afford an asylum for the trusts for the sake of 
the large revenue that is to be obtained from them. On the 
other hand, it was not until 1911, twenty-one years after the 
Federal Anti-Trust Act was passed, that this law was applied 
to the industrial combinations in a way that established con- 
clusively the right of Congress to control the trusts even to 
the point of requiring their dissolution. 

§ 255. Hostility to the trusts, which had much to do with The 
the enactment of the Interstate Commerce law in 1887, led Sherman 
next to the passing of direct anti-trust acts. In 1889 eight 
states and three territories passed such acts and two states in- 
serted anti-trust provisions into their constitutions. Congress 
followed in 1890 with the so-called " Sherman Anti-Trust 
Law." Other states and territories were not slow to fall 
in with the precedents so established, and before the move- 
ment spent itself more than thirty of the states passed anti- 
trust acts and as many as seventeen introduced anti-trust 
clauses into their constitutions. Some of these acts, like the 
Illinois statute of 1893, were declared unconstitutional on the 
ground that they imposed undue restraints on personal liberty. 

The Federal Anti-Trust Act declares specifically that itsPro- 
" every contract, combination in the form of a trust or other- ''Visions. 
wise, or conspiracy, in restraint of trade or commerce among 
the several states, or with foreign nations," is illegal, and 
that " every person who shall monopolize, or attempt to 
monopolize, or combine, or conspire with any other person or 
persons to monopolize any part of the trade or commerce 
among the several states or with foreign nations, shall be 
deemed guilty of a misdemeanor." Because of its sweeping 
condemnation of all forms of combination and the criminal 

* In February, 1913, New Jersey, under the leadership of President 
Wilson, amended its corporation and trust laws, so that it no longer 
offers any special advantages to the organizers of large business cor- 
porations. 



462 TRUST PROBLEM IN THE UNITED STATES 

penalties attached to it, the administration at Washington 
showed little enthusiasm for pressing its enforcement. This 
hesitation was encouraged by the apparent reluctance of the 
Supreme Court, as indicated in its earlier decisions, to give 
it the application to the trusts which Congress had intended. 
Until the decisions dissolving the Standard Oil Company and 
the American Tobacco Company were rendered in May, 1911, 
the act was of more significance to the railroads and to labor 
organizations, to both of which it was early applied, than to 
the trusts proper. 
Anti-trust The anti-trust acts of some of the states have been even 
Act of more sweeping in their provisions. Thus the Ohio statute, 

which went into effect July 1, 1898, and which is fairly typical 
of the state laws, declares : 

" That a trust is a combination of capital, skill, or acts by 
two or more persons, firms, partnerships, corporations, or asso- 
ciations of persons, or of any two or more of them for either, 
any, or all of the following purposes : 

" 1. To create or carry out restrictions in trade or com- 
merce. 

"2. To limit or reduce the production, or increase, or reduce 
the price of merchandise or any commodity. 

"3. To prevent competition in manufacture, making, trans- 
portation, sale, or purchase of merchandise, produce, or any 
commodity. 

"4. To fix at any standard or figure, whereby its price to 
the public or consumer shall be in any manner controlled or 
established, any article or commodity of merchandise, produce, 
or commerce intended for sale, barter, use, or consumption 
in this state. 

"5. To make or enter into or execute or carry out any con- 
tracts, obligations, or agreements of any kind or description, 
by which they shall bind or have bound themselves not to sell, 
dispose of or transport any article or any commodity, or any 
article of trade, use, merchandise, commerce or consumption 
below a common standard figure or fixed value, or by which 
they shall agree in any manner to keep the price of such 
article, commodity or transportation at a fixed or graduated 
figure, or by which they shall in any manner establish or settle 



BUREAU OF CORPORATIONS 463 

the price of any article, commodity or transportation between 
them or themselves and others, so as to directly or indirectly 
preclude a free and unrestricted competition among them- 
selves, or any purchasers or consumers in the sale or trans- 
portation of any such article or commodity, or by which they 
shall agree to pool, combine, or directly or indirectly unite any 
interests that they may have connected with the sale or trans- 
portation of any such article or commodity, that its price 
might in any manner be affected. Every such trust as is de- 
fined herein is declared to be unlawful, against public policy 
and void." 

If this act were literally interpreted, it would, as has been Difficulty 
well said, prohibit the most ordinary forms of business con- ofEnforce- 
tracts. It proceeds on the assumption that combination is con- 
trary to public policy and attempts the impossible task of re- 
storing the world to that stage of industrial development in 
which every producer was independent and a competitor of 
every other producer. Naturally the courts have not at- 
tempted literal enforcement, but in their efforts to give this 
and similar acts a reasonable interpretation they have deprived 
them of much of their significance. The experience of Texas, 
which succeeded in excluding the Standard Oil Company as 
a corporation only to have one of the paid agents of the trust 
come in, nominally as a private individual, and secure a large 
interest in the Beaumont oil field, is fairly typical of that of 
other states. It is the sober conviction of most students of 
trust legislation that the attempt to suppress the trusts through 
state legislation must prove futile. Armed with New Jersey 
charters, the trusts have been able, by fair means or foul, to 
maintain themselves in most markets against the most stringent 
anti-trust acts. In the light of this experience, the opinion is 
becoming general that the solution of the trust problem lies 
not in repression, but in national regulation. 

§ 256. An important first step in the direction of regulation The Bureau 
was taken by Congress when it established, as a part of the of Corpora- 
new Department of Commerce and Labor, a Federal Bureau 
of Corporations (Act of February 14, 1903). This Bureau 
and the Commissioner at its head are charged " to make dili- 
gent investigation into the organization, conduct, and man- 



464 TRUST PROBLEM IN THE UNITED STATES 



agement of the business of any corporation, joint stock com- 
pany, or corporate combination engaged in commerce among 
the several states or with foreign nations, excepting common 
carriers, . . . and to gather such information and data as 
will enable the president of the United States to make recom- 
mendations to Congress for legislation for the regulation of 
such commerce." Almost from its inception the activity 
of this Bureau has tended to fortify strongly the belief that 
the most effective remedy for unfair methods of competition 
is publicity. Its investigations and reports were a potent in- 
fluence in bringing about the important amendments to the 
Interstate Commerce Act which have resulted in the entire 
suppression of discriminatory practices on the part of the rail- 
roads. The evidence it has collected has been a valuable aid 
to the government in its dissolution suits against the trusts. 
Moreover it is bringing together the information which will 
be indispensable to the carrying out of a constructive policy 
of trust regulation, so soon as such policy shall be initiated. 

§ 257. Under the system of divided powers created by the 
Federal Constitution, three possible ways of dealing with the 
Reffulatine- *^^^^^ appear to be open. The plan which, if feasible, would 
be most certain to attain the desired object would be for Con- 
gress and the state legislatures to enact concurrent laws which 
would subject both the commercial and the manufacturing as- 
pects of these businesses to similar restrictions. As already 
stated, little progress has as yet been made in this direction 
because of the diverse interests which the different states have 
in the trusts. It may be dismissed as impracticable. A second 
plan for dealing with the trusts is to leave their regulation 
entirely to the states. Congress has power to control inter- 
state commerce, and may, therefore, it has been held, delegate 
such control to the state legislatures. If armed with full 
power over industrial combinations, the states, it is claimed, 
would be able to solve the trust problem independently. This 
proposal is open to the same objection as the preceding plan, 
and is also distinctly retrogressive. One of the chief reasons 
for assigning to Congress control over interstate commerce was 
experience of the narrow and selfish policies the states pursued 
so long as such control was left to them. To return to this 



Three 
Possible 
Ways of 



Trusts : 



FEDERAL INCORPORATION 465 

condition of affairs, even with respect to the trusts, would be 
unendurable. On these grounds this plan, also, may be dis- 
missed as inadequate. 

Alternative to the proposal to vest exclusive control of the National 
trusts in the state legislatures is the third plan, that of giving Control 

such control to Congress. In the light of the decisions of the ^^^^^ 

• 1 r. 1 -n 1 1 Adequate. 
Supreme Court in 1911 upholding the right of the Federal 

Government to dissolve two of the largest and most successful 
of the trusts, it is now clear that Congress, under the Consti- 
tution, possesses full power to control the trusts, if it desires 
to exercise it. It may do so either by enacting regulations 
with which all corporations must comply as a condition to 
carrying on any commerce among the states, the policy applied 
to the railroads, by requiring all corporations desiring to en- 
gage in interstate commerce to secure federal licenses, or by 
declaring that no corporations except those chartered by the 
Federal Government shall after a certain date be permitted to 
engage in interstate commerce. Since, to make the federal 
license or federal charter an effective means of controlling the 
trusts, regulations would have to be prescribed similar to those 
needed in the absence of either license or charter, the choice 
between these different plans is less important than the de- 
cision as to the exact regulations to be prescribed. As an im- 
mediate change from the system of state incorporation to that 
of federal incorporation would work considerable hardship, it 
would seem desirable at the outset to make federal incorpora- 
tion permissive rather than compulsory. It is claimed for the 
license plan that it would compel corporations intending to 
engage in interstate commerce to submit full information in 
regard to their organization and policies to the federal authori- Proposal to 
ties for approval before they could engage in such commerce. Combine a 
To secure this advantage it would suffice to declare in the ^^^^^^^ 
regulative law that no corporation chartered after such law ^ Federal 
should go into effect would be permitted to engage in interstate incorpora- 
commerce until it had submitted full information about itself tionPlan. 
to a designated federal authority and secured from that 
authority a license. The limitations imposed upon corpora- 
tions seeking licenses might then be made more stringent than 
those applying to corporations organized before the law went 



466 TRUST PROBLEM IN THE UNITED STATES 



Commission 
to Insure 
Enforce- 
ment of 
Law. 



Transfer of 
Control 
over Busi- 
ness Enter- 
prise to the 
Federal 
Govern- 
ment That 
Would 
Result. 



into effect, and in this way the interstate corporate business of 
the country could in time be brought into compliance with what- 
ever regulations were deemed desirable, without any sudden 
shock to established business habits and usages. When most 
of the corporations engaged in interstate commerce were found 
to be operating under federal licenses, the change to the com- 
pulsory federal incorporation of all corporations engaged in 
interstate commerce could easily be made. 

As in the regulation of the railroads, so in the regulation of 
the trusts, an important feature of any effective plan would 
necessarily be a pemianent commission composed of able busi- 
ness men, economists and lawyers and clothed with ample 
powers to see that any regulations prescribed were scrupu- 
lously observed. Such commission should exercise many of 
the powers with reference to industrial combinations that the 
Interstate Commerce Commission exercises with reference to 
the railroads and other common carriers. Highly important 
would be its duty to enforce publicity of financial operations. 
Uniform methods of corporate accounting adapted to different 
branches of business should be prescribed and annual reports 
required which would give the public full and accurate in- 
formation in regard to the results of the year's business. This 
publicity alone would effectively prevent large corporations 
from doing many of the things that in the past have been 
so opposed to the general welfare. 

The most serious objection to this and other plans of federal 
regulation is that when it was once entered upon it could not 
stop until control over business relations, which in the Ameri- 
can scheme of government has been vested in the states, had 
been transferred almost in its entirety to Congress. Such a 
large proportion of the business of the country is now con- 
ducted by corporations * and such a large proportion of the 
corporations extend their field of operations beyond the limits 
of a single state, that the policy considered would enormously 

* The magnitude of the task involved in regulating the large industrial 
corporations of the country is brought out by the returns secured in 
connection with the federal tax on the net incomes of corporations. 
For the year ending June 30, 1911, 89,114 industrial and manufactur- 
ing corporations paid this tax on net incomes aggregating $1,436,000,000. 
The capital stock of these corporations was $26,177,000,000, and the 



REFORMS TO BE EFFECTED 467 

increase the powers of Congress at the same time that it re- 
duced to very low terms the powers of the states. Many per- 
sons shrink from such a radical departure from inherited tra- 
ditions in reference to state rights and local self-government. 
Natural as is this feeling it must, with the growing conscious- 
ness of national industrial solidarity, give way to the convic- 
tion that businesses which are national in their scope must be 
regulated, if regulated at all, by national authority. Only in 
this way, it is believed, can the best interests of the whole 
people be safeguarded. Effective federal regulation appears, 
therefore, to be the only plan that is both practicable and ade- 
quate to the situation. 

§ 258. Assuming the trusts to be brought squarely under Reforms 
Congressional control, as are the national banks and the inter- to ^^ 
state railroads, we must consider the regulations which ought ^ • 
to be applied to them. What these are was suggested in what 
has been said of the illegitimate practices of the trusts. 

The most important reform, that is, putting a stop to rail- Prevention 
road discrimination in favor of the trusts, appears to have " ^ ^]^ 
been accomplished already by the legislation of 1906 and 1910. . .^^^ 
The second reform called for, preventing discriminatory prac- 
tices on the part of the monopolistic trusts themselves, might 
be brought about by making unfair methods of competition 
in general unlawful and leaving it for the courts to decide, 
on the basis of information collected by the Bureau of Corpo- 
rations, when unfair methods were used. Finally, contracts 
under which dealers were required to boycott other than trust- 
made goods should also be prohibited, and machinery should 
be created for making such prohibition effective. Through 
these measures unfair competition, which has too often char- 
acterized the practices of the trusts in the past, might, it is 
believed, be suppressed. 

In addition to bringing the trusts squarely under its con- 
trol and putting an end to unfair methods of competition, it 
would be highly desirable for Congress to revise the tariff so 

bonded and other indebtedness $7,895,000,000. All together 270,202 
corporations of all kinds paid the tax in that year on net incomes 
aggregating $3,360,000,000. Their combined capital stock totaled 
$57,886,000,000, and their aggregate bonded and other indebtedness v.'as 
$30,715,000,000. 



468 TRUST PROBLEM IN THE UNITED STATES 



Scaling 
down of 
Protective 
Duties 
on Trust 
Products. 



A Model 
Federal 
Corpora- 
tion Act. 



The Future 
of Ameri- 
can Trusts. 



as to subject monopolistic combinations to the wholesome stim- 
ulus of foreign competition. Such changes are especially 
called for in the case of trusts which have secured control of 
the important sources in the United States of the raw ma- 
terials which they use, as have, for example, the United States 
Steel Corporation and the International Paper Company. 
These businesses have many of the characteristics of natural 
monopolies so long as they are protected from foreign compe- 
tition, and for this reason to withdraw the protection of which 
they are the beneficiaries would seem to be along the line of 
sound public policy. 

Having prohibited unfair methods of competition and re- 
vised the tariff so as to subject monopolistic combinations to 
the restraints of foreign competition, the next step would be 
to impose in connection with the license requirement applying 
to new corporations the limitations in reference to the relation 
between nominal capitalization and real assets, the payment 
of dividends, the responsibility of promoters and directors, the 
filing with the Federal Government of full and accurate reports 
of condition at least once a year, etc., which would also be 
features of the optional federal incorporation act. A detailed 
consideration of these provisions would carry us from the trust 
problem into the broader corporation problem, but there can 
be no doubt that many of the evils that are ascribed to the 
trusts would have been avoided if the states had been more 
careful in drafting their corporation laws. The requirement of 
federal licenses and ultimately of federal charters is urged as 
the simplest means of tardily subjecting American corpora- 
tions to the restraints which should from the first have been 
applied to them. 

§ 259. The future of industrial combinations in the United 
States depends upon the promptness and effectiveness with 
which Congress imposes the regulations that have been out- 
lined above. Up to the present time no attempt at construc- 
tive regulation has been made. The anti-trust acts passed from 
1889 to 1900 were prohibitive rather than regulative. In its 
early decisions the Supreme Court held that the Federal Anti- 
Trust Act made unlawful all combinations in restraint of 
interstate commerce, whether reasonable or unreasonable, and 



REGULATION, NOT PROHIBITION 469 

sought to mitigate the severity of the statute by refusing to 
regard as interstate commerce transactions, like the acquisition 
of the plants of competing manufacturing companies in an- 
other state, which might easily have been included under this 
phrase. In its decisions in May, 1911, it took the ground that 
the act condemned not all combinations but only those that 
were unreasonable. It is thus at last in a position to discrim- 
inate between what is unreasonable and harmful in the con- 
duct of industrial combinations and what is reasonable and in 
harmony with the public interest. For some time its task in 
applying the statute will be a continuation of the work of 
dissolving the largest combinations, which was begun with the 
dissolution of the Standard Oil and the American Tobacco 
companies in 1911. Many of those who believe in regulation 
rather than prohibition view this dismemberment of the giant 
combinations as a waste of time, or worse. It must be ad- 
mitted, however, that the very size of these corporations made 
the task of regulating their operations exceedingly difficult. If 
the smaller units into which they are forced to divide are 
permitted to enter into reasonable contracts and agreements 
for the advancement of their common interests they may be 
able to effect many of the economies of combination while still 
retaining their individual existences. From the point of view 
of the Government this would have in addition to the ad- 
vantage consequent on the greater ease of regulating smaller 
business units, that of making the combinations less permanent 
and, therefore, less likely to take a direction seriously opposed 
to the public interest. It is to be hoped that Congress will soon 
supplement the prohibition of unreasonable combinations and 
of monopolies of the Anti-Trust Act with a statute expressly 
condemning unfair methods of competition, creating a com- 
mission to supervise corporations, other than common carriers, 
engaged in interstate commerce, requiring such corporations 
organized after the passage of the act to secure federal licenses 
and permitting them to secure federal charters, and imposing 
as conditions to the grant of licenses or charters all of the 
requirements of a wise and conservative corporation law. 
When this plan is adopted it may be found that as regards 
some branches of business the economies of combination, even 



470 TRUST PROBLEM IN THE UNITED STATES 

fair and reasonable combination, will be so great that single 
combinations will grow up that will be able to undersell and, 
therefore, drive from the field all smaller competitors. In 
that event the same policy which has been found necessary 
toward other natural monopolies of organization would be 
called for toward such exceptional industrial combinations. 
The regulating commission should be given power to regulate 
the prices to be charged by these monopolies, just as the In- 
terstate Commerce Commission has been given power to regu- 
late the rates charged by the railroads. Prediction as to 
whether any industrial combinations or how many would be 
found to have the characteristics of natural monopolies of 
organization, when developing under the limitations as to 
unfair methods of competition and other unreasonable prac- 
tices that have been described, would be idle. It may, how- 
ever, be asserted with confidence that the regulation of the 
prices that might be charged by such combinations, to make 
them " fair and reasonable," would be a simpler task than 
the regulation of railroad rates which has already been im- 
posed upon the Interstate Commerce Commission. 

Regulation, "With the passage of time the widespread alarm which was 
... at first aroused by the organization of the trusts and which 

Desirable '^^^ ^^ *^® anti-trust legislation has somewhat abated. It is 
now clear that the all-inclusive trust form of organization is 
adapted to rather a limited number of businesses, and that 
only in a few cases, even in the absence of legal regulation, 
can combination actually succeed in suppressing competition. 
At the same time, the reasons for the success of those trusts 
which made the largest profits are now understood, and public 
opinion is being educated to discriminate between the legiti- 
mate and illegitimate practices of the combinations, and to 
realize that behind the trust movement were more solid and 
creditable motives than the activity of unscrupulous promoters 
and the monopoly hunger of greedy manufacturers. It has 
been shown that the economies of combination are in many 
cases both real and substantial and the conviction is growing 
that a public policy that opposes all forms of combination is 
as unenlightened as it must in the long run be futile. 

The most effective single weapon wielded by the public for 



POWER OF CONSUMERS 471 

dealing with the trusts, as with other actual and potential Consumers' 

monopolies, is the consumer's power to substitute other goods ^owerto 

• Protect 
for those which the trusts enhance in price. As consumption 

and processes of production become more varied in their range, selves, 
this power acquires wider scope. It already effectually pre- 
cludes excessive profits to any very large number of businesses 
and limits the monopoly problem to those few services and 
commodities which remain indispensable to civilized existence, 
such as transportation facilities, coal, iron, petroleum, salt, 
sugar, etc. As time goes on, invention and discovery may 
still further narrow the list of such articles and services, but 
probably never to such an extent as to make the monopoly 
problem one of little importance to the economist. 

REFERENCES FOR COLLATERAL READING 

*Jenks, The Trust Problem; Montague, Trusts of To-day; *Van Rise, 
Concentration and Control; *Clark, Control of Trusts; *Ripley, Trusts, 
Pools, and Corporations; * Stevens, Industrial Combinations and Trusts; 
*Seager, The Recent Trust Decisions (article in Political Science 
Quarterly, December, 1911) ; Tarbell, History of the Standard Oil Com- 
pany; Report of the United States Industrial Commission, Vols. I., II., 
XIII. and XVIII.; *Reports of the Commissioner of Corporations on 
the Petroleum Industry, the Steel Industry, and the Tobacco Industry; 
*Meade, Trust Finance. 



CHAPTER XXVI 

GOVERNMENT EXPENDITURES AND GOVERNMENT 
REVENUES 

Scope of § 260. With the exception of money and banking there is 

Discussion. ^^ topic in economics to which more attention and literature 
have been devoted than to that of public finance. In this 
treatise it is possible to discuss only the more important as- 
pects of the subject, and government expenditures and gov- 
ernment revenues from other sources than taxation are con- 
sidered only so far as is necessary to introduce the question of 
the Reform of the Tax System of the United States dealt with 
in Chapter XXVIII. 
Govern- Diverse as are government expenditures and the functions 

ment x- ^^ connection with which they are made, they have one com- 
penditures - • • » n tip, p 

AreDe- "^^^ characteristic. All are undertaken tor the purpose oi 

signed to promoting the general welfare. From the point of view of 
Promote the political theory the relation between public and private activi- 
Generai ties in self-governing communities is easily explained. Through 
his private activities each individual secures so far as his 
means will permit, those commodities and services which are 
needed to gratify his wants and the wants of those dependent 
upon him. But certain wants are collective in their nature, 
and certain services can only be rendered satisfactorily by a 
central authority acting as the agent or servant of the whole 
community. The gratification of these wants and the render- 
ing of these services are the tasks of the government. Every 
one needs to be protected. For this purpose armies and navies 
are maintained, police and fire departments are organized, 
courts of justice are provided and penal and reformatory in- 
stitutions are supported. The well-being of every one requires 
that educational institutions of high standard shall be freely 
open, not only to themselves and their own children, but also to 
their neighbors and their neighbors' children, so that an edu- 

473 



PUBLIC EXPENDITURES 473 

cated public opinion may be created as a guarantee that just 
laws will be passed and efficiently enforced. The concern of 
every one in the other expenditures of modern democratic gov- 
ernments — that is, for the promotion of the health and effi- 
ciency of wage-earners through protective labor laws, and de- 
partments of labor and factory inspection to enforce them, 
for charitable relief for the defective and dependent classes, 
for the promotion of the nation's material interests, for the 
provision of roads, bridges, sewers, street lights, etc., and for 
the maintenance of the different departments of government, — 
is nearly, if not quite, as clear as that in protection and educa- 
tion. They all have to do with general and public interests 
and are justified only to the extent that through them these 
interests are advanced. 

Some writers have sought to formulate definite rules by 
means of which it can be judged in advance whether a given 
activity should or should not be undertaken by the govern- 
ment. Such rules are helpful when based upon actual experi- 
ence, but when based, as is usually the case, upon some dogma 
as to the proper sphere of the state, as that its sole duties are 
to protect life and property and administer justice, they are 
almost certain to be misleading. Developing states find it ad- 
vantageous to assume very different functions at different 
periods. On the whole as political organization becomes more 
efficient, there appears to be a tendency for the functions of 
the state to broaden. "Whether this is desirable or not can 
only be determined by experience of its effects. If in this way 
the well-being of the whole community is increased, the change 
is justified. There is no other universally valid criterion by 
which the rightness of either public or private action can be 
determined. 

§ 261. The dividing line between public and private expend- Public v. 
itures corresponds with the division between public and private Private Ex- 
activities. Each community has a limited supply of commodi- penditures. 
ties and of workmen capable of rendering services. The gov- 
ernment should withdraw from private industries so many and 
only so many workmen as can produce as public servants serv- 
ices and commodities of greater value than those turned over 
to such servants as their compensation. Through public ex- 



474 EXPENDITURES AND REVENUES 

penditures a part of the wealth that would otherwise be avail- 
able for private use is capitalized in public works or paid out 
in wages or salaries to public servants. Unless the resulting 
commodities and services are worth more to the community 
than what has been given for them the public expenditures are 
unwarranted. 

Simple as the matter is when stated in general terms, it 
presents serious practical difficulties. There is no way of 
measuring the value to a country of a standing army or of the 
" biggest navy afloat." Comparisons of the services of such 
public institutions with their cost lead to very different con- 
clusions when made by the " expansionist " than when made 
by the ' ' anti-imperialist. ' ' Equally difficult is the measuring 
of the value of the other services of government. That free 
public schools are worth even more than they cost will be 
generally admitted, but how shall it be determined how much 
of the people's money shall be expended on the maintenance of 
free public universities? The line must be drawn somewhere, 
but the difficulty of deciding where is illustrated every time 
an appropriation bill affecting a state-supported university 
comes up for consideration before one of the state legislatures. 
These practical difficulties differ, however, only in degree from 
the difficulties that arise in connection with all expenditure. 
Parents are often as much puzzled to determine whether a 
college education will be a " paying investment " for their 
sons, as are state legislatures to decide whether it will " pay " 
to invest more of the people's money in the institutions that 
offer college educations. In the former case individuals, in 
the latter the people's representatives must consider the 
alternative uses to which the same sums of money might be put. 
Unless it is clear that the thing secured is worth more than 
it costs, the expenditure is unwarranted. 
Division of § 262. In a federal state like the United States different 
mental" functions are performed by different branches of the govern- 
Fnnctions "^^^t- National defense, the improvement of rivers and har- 
in the bors, the promotion of foreign trade and intercourse, and to 
United some extent the administration of justice are functions under- 
states, taken by the National Government. To the states are allotted 
tasks connected with the development and administration of 



DIVISION OF EXPENDITURES 475 

business law, or justice, the maintenance of penal institutions, 
the care of many of the defectives and dependents who are 
incapable of self-support, the development and maintenance 
of higher educational institutions, and the furthering of cer- 
tain of the material interests of the community ranging all the 
way from the construction and operation of canals to the ex- 
termination of insects harmful to vegetation. The functions 
delegated by the state legislatures to local governing bodies, 
counties, cities, boroughs, towns, school districts, etc., are simi- 
lar to those assumed by the states themselves but more local in 
character. Among these the maintenance of the common 
schools, and of streets, bridges, sewers and ditches, the sup- 
plying of water, and the protection of life, health and property 
are among the most important undertaken by government. 

An approximate idea of the division of governmental func- Division of 
tions is afforded by statistics of the expenditures of the differ- Expendi- 
ent branches of government. In the census year 1890 the total •■^^^^• 
expenditures of the National Government were $630,000,000, 
which was approximately $10 per capita. In the same year the 
state of New York expended $13,170,000, or $2.20 per capita 
of its population, and the city of New York $34,985,000, or 
approximately $23 per capita of the city's population. In the 
last census year, 1910, the expenditures of each of the depart- 
ments of the government, except the first, were larger in pro- 
portion to the population. The National Government spent 
$727,000,000, or $7.90 per capita ; the state of New York $57,- 
000,000, or $6.30 per capita ; and the city of New York $164,- 
000,000, or $32.90 per capita. From the point of view of ex- 
penditure we may conclude that the local governing bodies, 
or at any rate the cities, are more than three times as important 
to the average citizen as the National Government, while the 
National Government itself is more important than the states. 

§ 263. The above figures are significant also for the light Relative 

they throw upon the relative importance of governmental and Importance 

private expenditures in the United States. Making allowance °^ I'^^lic 

and Private 
for the fact that the expenditures of New York State and „ ,. 

City are somewhat larger in proportion to their populations tures in the 

than those of the other state and local governing bodies we United 

may assume that the annual expenditures of all branches of States. 



476 



EXPENDITURES AND REVENUES 



Sources 
of Public 
Revenue. 



Revenue 
from Public 
Lands. 



the government amount to from $30 to $35 for every man, 
vroman and child in the United States, or to from $150 to 
$175 for the average family of five persons. We have no certain 
way of measuring the average family income in the United 
States exclusive of what is paid to the government in the form 
of taxation but it is a liberal allowance to assume that it lies 
somewhere between $700 and $900 a year. If we take the 
upper figure for governmental expenditures and the lower 
figure for family income it appears that as much as one-fifth 
of the total national income is expended each year by the 
different branches of the government, leaving only the other 
four-fifths to be spent or accumulated by individuals. Com- 
bining the other extremes the governmental expenditures are 
found to be one-seventh of the total, leaving the other six- 
sevenths for individual disbursement. Somewhere between 
these limits of one-fifth and one-seventh of the total national 
income governmental expenditures very probably lie. When 
the full significance of this fact is realized, the importance of 
honest, efficient and intelligent government begins to be ap- 
preciated. 

§ 264. The revenues expended for public purposes are de- 
rived from a variety of sources. Writers on finance have de- 
voted much thought to their classification, but for our purpose 
it will suffice to distinguish the following: (1) public lands 
and industries ; (2) special assessments ; (3) taxes; (4) loans; 
(5) miscellaneous sources. 

The income from public lands and industries depends upon 
the governmental policy in reference to the public domain and 
in reference to embarking upon industrial enterprises. In the 
United States, notwithstanding the vast extent of the public 
lands, comparatively little net revenue has been derived from 
these sources. The public land policy has been controlled from 
an early period by the thought that it is better to sell the lands, 
even for merely nominal sums, to persons who will settle upon 
them and bring them under cultivation than to treat them as 
an important source of revenue. In consequence of this policy 
the Federal Government now receives an annual average of 
only six or seven million dollars from this source, while it ex- 
pends considerably more than this upon the bureaus, whose 



SPECIAL ASSESSMENTS 477 

function it is to study and report upon the land and natural 
resources of the country and to care for the national forests. 
The income of the states from the public lands has been some- 
what larger proportionally, but only for Texas,* which entered 
the Union with a vast public domain, has it ranked as a chief 
source of revenue. 

The only important public industries carried on in the From 
United States are the post-office and municipal water systems Public 
and both of these are conducted on the principle of charging industries, 
no more than the service actually costs. In the case of the 
post-office this has usually resulted in a deficit which must be 
made good out of the other sources of revenue. 

The second and third items, special assessments and taxes, 
are usually treated together and are the principal sources of 
revenue of all modern governments. As the remaining sections 
of this and the following chapter treat of taxes nothing fur- 
ther need be said about them at this point. A special assess- Definition 
ment has been defined as " a payment made once for all to °^ Special 
defray the cost of a specific improvement to property under- ^^^^^' 
taken in the public interest, and levied hy the government in 
proportion to the particidar benefit accruing to the property- 
owner." f Such assessments are resorted to very commonly by 
American municipalities in connection with public improve- 
ments like the laying out of streets, the paving of streets, the 
laying of sidewalks, etc., which normally add to the value of 
adjoining property. In such cases it seems entirely appropri- 
ate that the persons receiving a special and peculiar benefit 
from the improvement, should contribute in a special and 
peculiar way toward the expenditure which it involves. Un- 
fortunately the instances are comparatively rare where the 
special benefits enjoyed as a result of government outlay can 
be distinguished from the general benefit, and for this reason 
the field for the application of the special-assessment principle 
is rather limited. 

*This state derived from its public lands $1,317,453 in 1890 and 
$864,921 in 1895. Its present land policy is illustrated by the fact 
that on September 1, 1905, it offered for sale 6,000,000 acres at a 
minimum price of $1 an acre to bona fide settlers. 

t Seligman, Essays in Taxation, p. 304. 



478 EXPENDITURES AND REVENUES 

Revenues § 265. Loans constitute an extraordinary rather than an 

from l-oans.^^^-jj^^y source of revenue. For governments as for indi- 
viduals, borrowing in order to meet current expenditures sim- 
ply puts oft: the time when the needed revenue must be ob- 
tained from some other source. Since to such postponement 
is added the disadvantage that interest must be paid for the 
sums borrowed, a resort to loans is only justified under special 
circumstances. 
War Loans. Writers on Public Finance agree in distinguishing three dif- 
ferent cases in which government loans may properly be made. 
The. first and most important is when a government is con- 
fronted by a war or some other serious emergency which de- 
mands immediate and large outlays. In this case the well- 
being not only of the present but of future generations may be 
at stake and a part of the sacrifice which must be made may 
well be imposed upon those who are to contribute to the gov- 
ernment's revenues in future years. Moreover, the money 
needed must be secured immediatelj^ and there is no device 
through which returns may be obtained at once comparable 
with that of borrowing. For these reasons part of the revenue 
required may be derived from the sale of government bonds, 
or promises to repay at some future date with interest the 
sums received in the present. In inaugurating a borrowing 
policy the government must be careful, however, to inaugurate 
at the same time changes in other parts of the revenue system 
which will insure the means of paying interest and principal 
in full as they fall due. Almost if not quite as important as 
immediate command over money for a government embarked 
upon a war is unimpaired credit, or future borrowing power. 
Unless the government's credit is protected it may find itself 
helpless at the very time when a second loan is needed to carry 
the war to a successful issue. The device which is now very 
generally employed to reassure lenders who intrust their sav- 
ings to the government is that of a sinking fund. Revenues 
constituting a certain proportion of the outstanding obliga- 
tions are dedicated each year to the debt service, and in this 
way a sufficient sum is secured to pay the principal of the debt 
when it becomes due. Contributions to the sinking fund can 
only be made, of course, if the ordinary revenues are increased 



GOVERNMENT LOANS 479 

and this is usually brought about through extraordinary or 
war taxes. 

The second case when government borrowing is warranted Industrial 
is when the money is needed for the development of some pro- I'oans. 
duetive public industry. If a city proposes to install its own 
water works, for example, it may very properly borrow money 
for the purpose and adjust the water rates so that they will 
provide enough to pay the interest on the debt and to accumu- 
late a sinking fund out of which the principal may be repaid 
when it falls due. This is the more defensible because the 
benefits of the expenditure are shared by all who make use 
of the city's water so long as the system continues to be 
used. 

The final case in which a resort to a loan may be defended Deficiency 
is to make up for a small deficiency in the year's revenues. Iioans. 
Careful financiering requires that the government's income 
should balance as nearly as possible its expenditures. But the 
income is somewhat irregular and unless the public treasury 
is to keep on hand a considerable surplus for which it expects 
to have no use, which is undesirable, it must often occur that 
the legitimate expenditures run ahead of the revenues. Under 
these circumstances a government is clearly justified in secur- 
ing a temporary loan to be repaid the following year, out of 
the larger revenues resulting from a contemporaneous change 
in the law controlling other sources of income. 

§ 266. In the United States as in all modern countries the 
above principles in reference to public loans have frequently Restrictions 
been disregarded. It is so easy to obtain money by borrowing o^ Bor- 
and so difficult often to obtain it in any other way that public ^o"^i"& 
authorities are under a constant temptation to issue and sell °^^^ .^" 
bonds when they ought rather to increase taxes or exercise c+ates 
more economy on the side of expenditures. Experience with 
the evils of reckless pledging of the public credit has led in 
most of the states to the imposition of constitutional restric- 
tions on the borrowing power. No such restriction has been 
imposed upon Congress and on the whole the federal debt — 
except during the critical period of the Civil War — has been 
kept within reasonable limits. The restrictions on the states 
usually take the form of limiting the amount that may be bor- 



480 EXPENDITURES AND REVENUES 

rowed to a certain proportion of the value of the taxable prop- 
erty within the state. The limitations on municipalities, also 
contained in many of the state constitutions, are sometimes 
even more rigid. Thus the constitution of New York State, 
adopted in 1894, limited the indebtedness which any city 
within the state might incur to ten per cent of the assessed 
valuation of its real estate. Exception was made of revenue 
bonds issued in anticipation of receipts from taxes and of 
water bonds but the latter had to be counted as a part of the 
debt when the issue of bonds for any other purpose was con- 
templated. This provision was justly criticised on the ground 
that it made no distinction between loans contracted in con- 
nection with public industries, the income from which would 
be ample to repay the loans without imposing any additional 
burden upon taxpayers, and loans which must ultimately be 
repaid out of the revenues derived from taxes. For the former 
class of loans the limitation was much too rigid and since it 
had the effect of seriously retarding legitimate and much- 
needed municipal improvements in the cities of the state, it 
was finally removed as regards productive loans by an amend- 
ment to the constitution. 
Revenues § 267. The sources of public revenue referred to as miscel- 
laneous include such diverse items as gifts, fines and other 
penalties, and fees. In the United States gifts figure among 
public receipts chiefly in the form of donations to the " con- 
science fund " and are neither large nor important.* Few 
persons seem to realize that in giving to the government they 
are contributing to the one agency whose primary business it 
is to advance the general welfare. Contrasted with the lavish 
gifts to private and denominational schools and universities 
which are constantly being made by America's rich men, the 
gifts to the public schools and the state-supported universities 
are so infrequent as to excite general comment when they 
occur. The attitude of mind toward the government which 
this fact reflects is partly inherited from the past, when all 
persons not in the privileged governing class were as a matter 
of course opposed to the government, and partly the result 
of a wide-spread distrust of the officials who control public 
* Exception must be made of Mr. Carnegie's libraries. 



from Gifts. 



DEFINITION OF A TAX 481 

expenditures. It is to be hoped that as time goes on it may 
give place to a juster appreciation of the importance of the 
services which the government renders. Certainly there is no 
way in which a man of wealth can more greatly benefit the 
city in which he lives than by supplementing public expendi- 
tures for better school facilities and more ample parks and 
play-grounds, or in general at those points where the public 
need is greatest and the expenditures least adequate. 

Fines and other penalties, such as the confiscation of prop- 
erty unlawfully brought into the country, are unimportant Definition 
sources of revenue and require no special comment. By a fee ^^ ^ '^^^' 
is meant " a payment to defray the cost of each recurring 
service undertakeii by the government primarily in the public 
interest, but conferring a measurable special advantage on the 
fee-payer." * It is distinguished, on the one hand, from the 
price paid for a commodity supplied by the government, such 
as a water rate, because the primary motive of the government 
in rendering the service, issuing marriage licenses for example, 
is regulation in the public interest, the benefit to the individual 
paying the fee being secondary. On the other hand, it is dis- 
tinguished from a tax in that it is a payment for a special 
benefit enjoyed by the payer, whereas taxes are a return for 
general benefits. As a rule fees are made only high enough 
to cover or partly cover the cost of the service rendered. Ex- 
perience has shown that they ought not to be relied upon to 
compensate the official who collects them because they are cer- 
tain to yield either less or more than a fair compensation for 
the work done and thus to demoralize the public service by 
rewarding unequally officials of the same grade. 

§ 268. A tax may be defined as a compulsory contribution 
to the government to defray expenses incurred for the com,- Definition 
nion benefit without reference to special advantages enjoyed. of^'T^^- 
The points to be emphasized in this definition are that the 
payment is compulsory, that the proceeds are to be used for 
the common benefit and that the justification for the payment 
is participation in these common benefits rather than any spe- 
cial advantage enjoyed. The last statement is given promi- 
nence because it throws light upon the first question that 
* Seligman, Essays in Taxation, p. 304. 



482 



EXPENDITURES AND REVENUES 



Taxes 
Should Be 
Paid by 
Each in 
Proportion 
to His 
Ability. 



The 

" Equal 
Sacrifice 
Theory. 



arises in connection with any system of taxation, that is, as 
to the principle according to which taxes should be appor- 
tioned among the individuals in a community. A little 
thought shows that the correct principle of apportionment 
cannot be that of special benefit received from government 
expenditures. Those who need public assistance most; aban- 
doned children, paupers, the insane, etc., are the very ones 
who are least able to pay taxes. On the other hand those who 
are able to pay most seem often in little need of those services 
which the government renders. Men of means may and often 
do employ private detectives, watchmen, etc., to look after 
their persons and property, they do not usually send their 
children to the public schools and in other ways they make 
little use of those things which the government supplies gra- 
tuitously. Obviously if each paid taxes only in proportion to 
the special benefits enjoyed, the whole business of government 
might be brought to a standstill. 

Opposed to the principle of taxation in proportion to bene- 
fits is that of taxation according to ability to pay, or the 
" faculty " theory. This rests on the broad ground that it 
is impossible to measure the benefits which individuals owe 
to the government, because without government civilized so- 
ciety could not exist. From the time a person comes into the 
world, whether he be rich or poor, his development and suc- 
cess at every stage is conditional upon the presence of the 
machinery for preserving order, protecting life and property, 
and administering justice. All that can be said of these bene- 
fits is that their importance for every one is inestimable, and 
that the only test of what should be given in return for them 
is the ability of the giver. The true relation between the 
government and the taxpayer is thus like that between the 
member and his church. Each should contribute according 
to his means and recognize that the return in the services 
rendered by the government much more than compensates 
for any contribution, no matter how large. 

To give greater precision to the principle of ability or fac- 
ulty it has been suggested that the test to be applied is that 
of " equal sacrifice," that is, that the contributions to the 
state should impose equal sacrifices upon all of those who 



PROVISIONS OF FEDERAL CONSTITUTION 483 

contribute. This test would be quite valid if it could be ac- 
curately applied, but in practice in the apportionment of 
taxes it is possible to attain only approximate justice, and 
for this purpose the ability or faculty test is sufficiently 
exact. 

§ 269. The principal taxes imposed in the United States Principal 
may be classified as follows : Taxes on income, including in- ^^^^^ Im- 

heritance taxes: taxes on property; and taxes on business, f°^.t ]^ 

^ t' J , J United 

including excise taxes and customs duties. The Federal Gov- states 
ernment derives more than nine-tenths of its net revenue from 
internal revenue or excise taxes, and tariff or customs duties. 
These are described as taxes on business because they apply 
to commodities usually before they have come into the pos- 
session of consumers and consequently affect business rela- 
tions. The revenues of the states come for the most part from 
the general property tax and from corporation, license and 
inheritance taxes. The last are characterized as taxes on in- 
come because from one point of view inheritances are income 
and may be so described for purposes of taxation. Finally, 
the local governing bodies depend for their revenues mainly 
upon the general property tax, which may be supplemented 
by local license taxes. 

Among the influences which have given its present form TaxPro- 
to the system of taxation in operation in the United States are visions of 
certain provisions inserted in the Federal Constitution when ^ e era 
the country was still in its infancy and altered only by ^^^j^ 
judicial interpretation since. Of these the most important 
are: 

(1) The requirement that '' all duties, imposts and excises 
shall be uniform throughout the United States." 

(2) The provision that " no capitation or other direct tax 
shall be laid [by Congress] unless in proportion to the cen- 
sus " of population. 

(3) The provision that " no tax or duty shall be laid [by 
Congress] on articles exported from any state." 

(4) The provision that " no state shall, without the con- 
sent of the Congress, lay any impost or duties on imports or 
exports, except what may be absolutely necessary for exe- 
cuting its inspection laws." 



484 



EXPENDITURES AND REVENUES 



The Shift- 
ing and 
Incidence 
of Taxes. 



The 

Incidence 
of Customs 
and Excise 
Taxes. 



The principal effects of these provisions have been to make 
the courts very strict in their insistence on the rule that taxes 
must be ' ' uniform " ; to give to the Federal Government ex- 
clusive use of import duties as a source of revenue; to pre- 
vent any hampering of the country's export business through 
taxation; and to nullify the income tax imposed in 1894 and 
cause the adoption, after a long struggle, of the amendment 
to the federal constitution expressly giving Congress the 
power to tax incomes in February, 1913. Although in the 
last instance the government was seriously embarrassed by 
the constitutional restriction, writers on Public Finance gen- 
erally approve these provisions as having behind them sound 
reasons of public policy. Certainly the freedom of exports 
and immunity from state interference with imports guaran- 
teed by the constitution have been of the greatest value to the 
coimtry's foreign trade. 

§ 270. To form an opinion whether the various taxes enu- 
merated above obey the principle " taxation according to 
ability," it is necessary to consider in connection with each 
the questions: by whom is the tax paid and how does it 
affect the general distribution of income in the commu- 
nity, upon which ability to pay depends. The tirst of these 
questions is that of " shifting and incidence " and the sec- 
ond merely a special phase of the general problem of distri- 
bution. 

It is a fact familiar to every one that taxes are often shifted 
by those who pay them to others so that ultimate payment 
may be made by persons ignorant of the taxes' very exist- 
ence. This shifting is often very complicated and our treat- 
ment of it must be illustrative rather than exhaustive. 

Customs duties and excise taxes are imposed on commodi- 
ties usually in the hands of dealers. After they have been in 
force for sufficient time to permit the community to become 
adjusted to them they come usually to be looked upon as addi- 
tions to the expenses of producing and selling the commodities 
affected. Like other items in the expense of production they 
will have to be covered in the long run in the prices for which 
the goods are sold, or, in other words, they will normally be 
shifted from the seller to the buyer and ultimately to the 



PROPERTY TAXES 485 

consumer. This does not necessarily mean that the price 
after the tax is imposed will be higher than the earlier price 
by the exact amount of the tax. As the price rises purchases 
will decrease and in the readjustment of the supply which be- 
comes necessary other items in the expense of production may 
be altered. Or the commodity may be the product of a mo- 
nopoly, which can well afford to bear a part of the tax itself 
and which is already charging the public as high a price as is 
prudent. Thus as the result of the tax the price may remain 
unchanged or be advanced only enough to cover a part of the 
tax, to exactly cover the tax, or by an amount even greater 
than the tax. Confronted by these different possibilities, the 
economist finds it difficult to lay down any rule as to the 
justice of customs and excise taxes. Where they are shifted 
in part to consumers they involve acceptance of expenditure 
for the commodities concerned as the test of ability to pay 
taxes. It needs no extended argument to prove that this is 
an unfair test. The expenditures of the poor for sugar, 
woolen goods, tobacco, malt and spirituous liquors,* and many 
of the other things that are taxed in the United States are 
very much larger in proportion to their incomes than the 
expenditures of the rich. In so far as taxes of this sort are 
shifted to consumers, they impose a disproportionate burden 
upon the poorer classes. 

§ 271. The general property tax is an institution pecu- Property 
liar to the United States, which owed its existence largely to and Poll 
the conditions found in a primitive agricultural community. Taxes. 
When the American states began imposing taxes they ac- 
cepted two principles for their guidance, first, that every head 
of the family should contribute something toward the support 
of the government and, second, that the amount of a man's 
property was the fairest index of his ability to pay taxes. In 
harmony with these views they imposed poll and general prop- 
erty taxes. Because of their inconvenience and of the small 
returns to be derived from them poll taxes have now been 

* During the five years, 1907 to 1911, 46.8 per cent of the total 
ordinary receipts of the Federal Government from all sources were 
derived from the customs and internal revenue duties on malt and 
spirituous liquors and on tobacco. 



486 



EXPENDITURES AND REVENUES 



Evasion 
of the 
Personal 
Property 
Tax. 



Evidence 
of Such 
Evasion. 



given up by most of the states, but the general property tax 
is almost universally retained. 

The question of the incidence of the general property tax 
is complicated by the fact that in practice a large amount of 
property escapes assessment. The law usually distinguishes 
between real estate and personal properly. Real estate, which 
includes with the land all buildings that may have been 
erected upon it, is easily assessed and since it cannot be re- 
moved may easily be seized as security that the tax will be 
paid. Personal property, on the other hand, which includes 
not only such things as furniture, vehicles, wearing apparel, 
tools, implements, etc., but also such things as money, notes, 
mortgages, stocks, bonds, etc., cannot, by any means that have 
yet been devised, be accurately assessed and, consequently, 
escapes in large measure its share of taxation. It would take 
too long to describe the different ways in which the owner of 
personal propert}^ such as shares of stock or bonds in a for- 
eign corporation, may evade the tax assessor. Deliberate 
concealment of the securities subject to the tax is usually easy. 
To make this more certain the securities may be issued in the 
name of some other person. Fictitious debts may be created 
and declared to offset fully the securities owned. In these 
and many other ways all Avho wish to escape taxation on their 
personal property can do so with little risk of detection. 

§ 272. The results that follow from this easy evasion of 
the personal property tax have become notorious. In those 
very states where it is well known that personal property is 
increasing most rapidly the amount that is taxed actually 
diminishes. Thus in California between 1872 and 1887 while 
the assessed value of real estate increased from 417 to 791 
million dollars, the assessed value of personal property de- 
creased from 220 to 164 millions. By 1893, although the 
value of real estate had continued to increase until it was 
over 1000 million dollars, the value of personalty had in- 
creased to only 173 millions. In New York the assessed value 
of real estate has increased steadily and continuously since 
it first passed the $1,000,000,000 mark in 1853. In that year 
the assessed value of personal property was $250,000,000, so 
that it bore one-fifth of the tax. By 1875 the value of real 



GENERAL PROPERTY TAX 487 

estate exceeded $2,000,000,000 but the value of personalty 
had increased to only $358,000,000, so that it bore about one- 
seventh of the tax burden in that year. The $3,000,000,000 
mark for the value of real estate was passed in 1886, but in 
that year the value of personalty was only $336,000,000, or 
actually less than it had been eleven years before. It thus 
bore only a little more than one-tenth of the tax. The tend- 
ency for the assessed value of real estate to advance and for 
that of personalty to lag behind has continued since until at 
present in the richest state in the Union, whose wealth con- 
sists very largely of corporate securities, personal property 
represents less than ten per cent and real estate more than 
ninety per cent of the property assessed for the general prop- 
erty tax. So conspicuously does the personal property tax 
fail to reach the property of those who are unwilling to pay 
that it has been justly described as " debauching to the con- 
science and subversive of the public morals — a school for per- 
jury, promoted by law." It falls only on those who are too 
scrupulous to evade it, and, as its unfairness becomes more 
widely recognized, the number who are willing to carry bur- 
dens which their neighbors callously throw off becomes 
smaller and smaller. 

§ 273. In those communities, if any such remain, in which Incidence 
personal, as well as real, property is assessed at its full value, °^ ^ Perfect 
the general property tax falls upon all in proportion to their 
means and thus satisfies fairly well the canon that taxation ^^^_ 
should be in proportion to ability. It does not do so com- 
pletely because obviously it fails to reach the income derived 
from personal exertion. Salaries, profits, professional earn- 
ings all escape and in some cases those who receive their in- 
comes in these forms have no property to speak of and, conse 
quently, contribute nothing to the government. Thus the gen- 
eral property tax even when perfectly administered would need 
to be supplemented with a tax upon incomes from personal 
exertion to satisfy completely the requirements of justice. 

But, as has just been shown, in practice, especially in the Analysis 
more highly developed sections of the country, personal prop- °^ ^ ^®^" 
erty very largely escapes the tax. The general property tax ^^f ^°^' 
becomes in consequence a tax on real estate, upon certain kinds 



488 



EXPENDITURES AND REVENUES 



Tax on 
Land Paid 
by Land- 
owner. 



of personal property, and upon the conscientious owners 
of all kinds of personal property. To determine who pays 
this tax we must go even a step farther and describe it 
as a tax on land, on buildings, on certain sorts of per- 
sonal property, and on certain sorts of personal property 
owners. 

The real estate tax must be subdivided into the land tax and 
the building tax because the economic effects of these two 
taxes, even though assessed at the same rate and as one tax, 
are very different. The part of the tax that falls on land is 
paid by the landowner whether he occupies the land himself 
or leases it to another. To understand why this must be the 
case it is necessary to recall how the rent and value of 
pieces of land are determined.* The land supply of the 
country, determined broadly speaking by natural conditions, 
is divided up into different grades and each piece of land 
commands a rent depending upon the demand for land of that 
grade and the supply of such land and other land that might, 
if it were economically desirable, be devoted to the same eco- 
nomic use. Once determined by the competition and bargain- 
ing of landowners and land-users this rent will be changed 
only if some cause changes either the demand for, or the 
supply of, such land. Moreover the value of the land is this 
rent capitalized at the current rate of interest. There is no 
means by which the landowner can shift a tax on land pro- 
portioned to its rent or selling value to the lessor or user, be- 
cause the latter is already presumably paying the full econo- 
mic rent for it. If asked to pay more he or some one in the 
group using the same grade of land will use instead land of 
somewhat inferior grade. The users of this land in turn if 
asked to bear a part of the tax will move to the land of still 
lower grade. Thus the attempt to shift the tax, there having 
been no increase in the demand for land — and there is noth- 
ing in the imposition of a tax to cause such an increase — is 
opposed by a moving away of lessors who are already paying 
all they are willing to pay. This resistance will continue un- 
til some have withdrawn entirely from the area over which 
the tax extends, with the result that land which was formerly 
*Cf. Chapter XIV. 



LAND TAXES • 489 

occupied will be untenanted. The only way in which the 

landowners can recall the old tenants or attract new ones is 

by offering the land at the old rental, that is, abandoning the 

attempt to shift the tax to other shoulders. 

This result is often concealed in consequence of the fact Circum- 

that the community in which the tax is imposed is growing stances 

and rents are advancing because the demand for land is in- Obscuring 

This Fact, 
creasing. If the land tax is small, the rise in rent — which 

would have occurred in any case — may reimburse landlords 
for the tax and give them the impression that they are shift- 
ing it to their tenants. What they are really doing, however, 
is paying it themselves by foregoing the larger increase in 
the income they derive from their land, which would have 
been theirs had no land tax been imposed. The conclusion to 
which we are brought, therefore, is that a land tax must be 
paid by landowners because it tends neither to increase the 
demand for land nor to reduce the supply, and it is only by 
increasing the demand or reducing the supply that the ten- 
ants generally can be forced to pay higher rents. 

§ 274. The land tax has another peculiarity. Since the Capitaliza- 
value of a piece of land is its rent capitalized at the current tio" "f 

rate of interest, the imposition of a tax that is to be collected ^^ 

Taxes 
year after year reduces the value of the land by an amount 

equal to the tax capitalized at the current rate of interest. 
Generally speaking, land is looked upon as an investment and 
will command that price that makes its return equal to that 
to be obtained from other investments as indicated by the 
current rate of interest. If the government imposes an an- 
nual tax and thereby takes from the landowner a part of his 
return it reduces the value of the land as an investment cor- 
respondingly. As an investment the land is now worth the 
gross rent less the annual tax capitalized at the current rate 
of interest. 

A numerical illustration may serve to make this clearer. An 
Suppose that a piece of land affords a gross rent of $6000 a Example, 
year, that the government imposes a tax that takes $1000 
each year, and that the current rate of interest is five per cent. 
Under these conditions the value of the land for investment 
purposes will be $100,000 or the sum which, if invested at the 



490 EXPENDITURES AND REVENUES 

current rate of interest, would bring in $5000, the net return 
from the land. If the tax is proportioned to the value of the 
land it will be at the rate of one per cent. Suppose now the 
government increases the land tax so as to take $1200 from 
the landowner while the rate of interest remains at five per 
cent. Under these new conditions the net return from the 
land is only $4800 and its value only $96,000. The tax rate 
is now one and one-quarter per cent. The increase in the tax 
rate by one quarter of one per cent not only lowers the 
annual return to the owner by the amount taken by the tax 
(that is, $200) but what is more serious it lowers the value 
of his property by $4000. He must not only pay the tax so 
long as he continues to own the land but when he sells it he 
must submit to a reduction in the price which causes him to 
pay the tax for all time. The purchaser, on the other 
hand, who acquires the land with full knowledge that the tax 
must be paid each year suffers no deduction from his income 
in consequence of the tax. Because of the tax he obtains the 
land for $96,000 or the sum which would yield the $4800 he 
is to receive from it each year if invested at the current rate 
of interest. If the tax had remained at the old rate he would 
have had to pay $100,000 for it. Had there been no tax at all 
it would have been worth $120,000 as the return would then 
have been the full rent, or $6000. Thus a new land tax is 
a burden on the landowner upon whose land it is imposed 
not only while he continues to be o-wner but even when 
he attempts to escape it by selling his land. It amounts 
to a compulsory reduction in the investment value of his 
property. 
An Old g 275. With these peculiarities in mind what are we to say 

jg of a tax on land from the point of view of the principle that 

Burdenless. ^^^xation should be in proportion to ability? The first con- 
clusion to be drawn is that no tax is less open to objection 
than an old land tax. The proceeds of such a tax are drawn 
from the rent earned by the land. After the tax has been in 
force for a number of years and the land has changed hands 
at least once at the new valuation caused by the tax, it ceases 
to impose any burden whatever upon present landowners. 
The part of the rent which it diverts to the u§e of the govern- 



TAXES ON BUILDINGS 491 

ment is a part which they never expected to control them- 
selves. The remainder affords them as large a return as they 
could have obtained from any other form of investment, and 
they are entirely satisfied with the arrangement. It is for 
these reasons that real estate owners pay their taxes with so 
little grumbling. Nothing would surprise them more than to 
have their tax rate lowered — the basis of assessment remain- 
ing the same — and no policy would be so unfair to other tax- 
payers, since it would amount to adding gratuitously to the 
value of land for investment purposes. 

A new or a higher land tax is a very different matter. If A New 
the population is growing and rents are going up the tax may ^^^^ Tax 
be raised gradually without unduly burdening landowners. 
Under such circumstances the higher tax merely acquires for figcation of 
the government the increase in the rent leaving the land- property. 
owner's return on his investment undisturbed. If the in- 
crease in rent has not been anticipated by the landowner in 
the price he paid for the land and has followed general 
changes in which he has had little or no part its appropriation 
seems entirely fair. But exactly adjusting a rising tax rate • 
to rising land rents is a matter of much delicacy. What is 
very likely to happen, if the land tax is raised, is that it will 
cut into the income formerly enjoyed by the landlord and 
cause his land to depreciate in value. Such a policy clearly 
discriminates against landowners in comparison with owners 
of other sorts of property. Unless it is combined with other 
taxes in such a way that landowners are not singled out for 
exceptional taxation, it violates the principle that taxation 
should be in proportion to ability. 

§ 276. The effect of a tax on buildings is different from Taxes on 
that of a tax on land sim^ply because the supply of buildings buildings 
may and in course of time will be controlled by investors in Q(.(.^piej.g 
buildings with a view to escaping the tax. When a real estate 
tax is first imposed owners of buildings will have to bear their 
proportion of it as do owners of land. It will not cause any 
increase in the demand for buildings, nor immediately any 
decrease in the supply. But, unlike land, buildings wear out, 
are destroyed by fire, or for some other reason become unfit 
for use. In a progressive community there is added to the 



492 



EXPENDITURES AND REVENUES 



Tax on 
Mortgages 
Paid by 
Borrowers. 



need of replacing old buildings a demand for new buildings 
to accommodate the growing population. If owners of build- 
ings have to pay the tax on them — even when they own them 
as investments— the erection of new buildings will be un- 
profitable until the lessened supply coupled with the constant 
or increasing demand causes building rents to rise so as to 
fully cover the tax. Only after this has occurred will the 
erection of buildings again become profitable, because the tax 
has been shifted from the building owner to the occupier. 
Thus the part of the real estate tax which falls upon build- 
ings tends to discourage building operations until building 
rents have risen to reimburse the owner for the full amount 
of the tax. Such taxes are paid, as soon as the community 
is fully adjusted to them, by occupiers or lessors rather than 
by owners. The question whether this part of the real estate 
tax satisfies our canon of fairness, thus reduces to the ques- 
tion whether the sort of a house or place of business a person 
occupies is a fair index to his ability to contribute to the sup- 
port of the government. Generally speaking the acceptance 
of this basis imposes disproportionally heavy burdens on the 
poorer classes in the same way, but not to the same extent, 
as do other taxes falling upon consumers. 

§ 277. Similar in effect to the tax on buildings is the tax 
on any special form of personal property that cannot be 
evaded, like the tax on mortgages in some of the states. At 
first such a tax makes investments in mortgages unprofitable 
as compared with untaxed investments. The balance is only 
restored when the interest on mortgages is raised by the full 
amount of the tax and the burden is shifted to borrowers. It 
needs no extended argument to prove that a tax upon bor- 
rowers in proportion to the extent of their indebtedness has 
little relation to the principle that taxation should be in pro- 
portion to ability. 

Even more obvious is the injustice of what remains of the 
general property tax, that is, the tax on highly scrupulous 
personal property owners, who obey the law strictly, while 
their friends and neighbors take advantage of the many easy 
means of evasion. This portion of the tax violates every 
principle of fairness and reasonableness and brings the whole 



FRANCHISE TAXES 493 

general property tax, of which it is a part, into merited dis- 
repute. 

To sum up our conclusions in reference to the general Injustice 
property tax. That part which falls upon land, if the tax of a Partial 

• • T^ fl y on 

has been long in operation, is paid out of rent and is virtually 
burdenless to present landowners; when the tax is first im- property, 
posed, on the other hand, unless it is exactly adjusted to 
gradually rising rents, this part imposes a special burden on 
landowners which is only fair if other individuals are simi- 
larly burdened at the same time. That part which falls upon 
buildings or any other special form of investment, while other 
forms of investment are permitted to escape, falls upon the 
occupier or borrower as distinguished from the owner or 
lender. Finally that part which penalizes honesty, unlike 
the rain, falls upon the just, but not upon the unjust. 

§ 278. Corporation taxes, the next important source of Corpora- 
state revenue, are of various kinds. We may distinguish in- ^^°^ Taxes, 
corporation or license taxes, franchise taxes, taxes on capital 
stock and bonded debt, gross receipts taxes, net incomes taxes 
and special franchise taxes. 

The incorporation or license tax is the tax paid for the Thelncor- 
priviiege of incorporation. In most of the states it is merely poration 
a fee, but in a few like New Jersey whose corporation laws 
have been so drawn as to attract organizers of corporations 
from other states, it is an important source of revenue. It is 
borne by the corporation which pays it and is universally ap- 
proved as fair and reasonable. 

The franchise tax is a tax on a corporation as a going con- Franchise 
cern. As distinguished from the incorporation tax it is a Taxes, 
payment for the right to do rather than merely to he. In 
order to assess the franchise it is necessary to adopt some 
criterion of its value and consequently this tax merges into 
the more specific methods of taxing corporations next to be 
described. The legal conception of a franchise tax has been 
of the greatest importance in the United States because under 
it the courts have sustained a number of different ways of 
taxing corporations w^hich would hardly have been approved 
if looked upon merely as ways of taxing property or income. 

Inability to reach the stock and bonds of corporations in 



494 EXPENDITURES AND REVENUES 

The Capital the hands of their owners through the general property tax 
Stock Tax. has caused the states in which corporate enterprises are most 
highly developed to seek for other methods of attaining the 
same end. The plan most commonly adopted is to tax the 
corporations themselves, while exempting their securities in 
the hands of owners. The first step in this direction is usu- 
ally the capital stock tax. It is a tax on the actual value of 
the capital of a corporation, determined by a board of state 
assessors, deduction being allowed usually for real estate, 
which is assessed and taxed locally, and sometimes for bonded 
and other indebtedness, which in such cases usually escapes 
taxation altogether. In its most highly developed and most 
defensible form, it is a tax on the capital stock, whose value 
is determined by the prices at which its shares are selling, and 
the bonded indebtedness. The aggregate value of the stock 
and bonds of a corporation represents its worth as a going 
concern from the point of view of the business community 
and constitute, therefore, the fairest basis for measuring its 
ability to contribute to the government, so long as property is 
accepted as the test of such ability. On this point there has 
been a good deal of confusion in the decisions of the courts. 
Misled by the analogy of private indebtedness judges have 
sometimes held that the bonds as indications of debt should be 
subtracted from the value of the stock to determine the value 
of the corporation, just as the debts of an individual are 
properly deducted from his assets to determine what he is 
worth. But the bondholders of a corporation are really part 
owners in the corporation. In fact, it not infrequently hap- 
pens that their bonds represent the whole value of the cor- 
poration, the stock having merely a nominal value. The 
stockholders' interest in turn is an interest in what is left 
after the claim of the bondholders has been satisfied. Thus 
the correct criterion of the taxable ability of a corporation is 
not stock less bonds but stock mid bonds. 
Advantages A tax on the capital stock and bonded indebtedness of cor- 
of This Tax.porations, exemption of these forms of personal property in 
the hands of owners being, of course, allowed, goes far toward 
correcting one of the most glaring abuses of the general prop- 
erty tax. Such a tax, if applying to all corporations, serves, 



NET INCOME TAXES 495 

no doubt, to lessen the attractiveness of the corporate form 
of organization to investors and to lead them to prefer at 
times the partnership or individual enterpriser forms, under 
which evasion of the property tax is comparatively easy. 
This, however, is a small matter in comparison with the ad- 
vantages of such taxation. It falls equally upon all of those 
who avail themselves of the privilege of incorporation and it 
prevents that privilege from being too lightly embraced. It 
brings in large revenues to the state treasuries and enables 
them to dispense with other and less defensible taxes. Finally, 
it is a step away from the outgrown general property tax in 
the direction of dependence upon special privilege taxes that 
can be easily and fairly assessed and collected. 

§ 279. Gross receipts taxes are another form of corporate Gross 
taxation that has come into being in consequence of the feel- E,eceipts 
ing that these organizations escape their fair share of the tax ^^^^' 
burden. They have been applied in different states to insur- 
ance companies, express and railway companies and street 
railway companies. The principal justification for them is 
the comparative ease with which they may be assessed and 
collected and the large revenues which they may be made to 
yield. From the point of view of fairness in apportioning 
tax burdens not much is to be urged in their favor. The test 
of ability to pay taxes is not gross receipts but net income. 
Of the former one company may be required to spend nine- 
tenths upon expenses of operation while another company 
spends only three-fourths. It is what is left in both cases 
that measures tax paying ability, not the gross returns. This 
objection has less force when applied to businesses like that 
of insurance, in which the relation between gross receipts and 
net income is fairly constant. When limited to businesses of 
this sort and made to apply at a rate determined by the as- 
certained relation between gross receipts and net income in 
typical instances, the administrative advantages of the tax 
probably justify its existence. 

§ 280. The reasons for the adoption of the gross receipts Net In- 
tax become evident from a study of the history of the next *^°™^ Taxes, 
form of corporate tax, that on net income. This tax has also 
been applied to insurance and transportation companies by 



496 EXPENDITURES AND REVENUES 

different states. It assumes a variety of forms sometimes 
applying to the whole net income, sometimes only to that part 
distributed as dividends above a certain rate per cent. A tax 
on the net income or earnings of corporations would seem 
at first thought an ideal method of compelling them to con- 
tribute to the government in proportion to their ability. It 
is out of the net income that interest and dividends are paid 
to investors and it is these that measure tax paying faculty. 
The difficulty is that in practice it is found impossible to pre- 
vent corporations from concealing their true net earnings 
when the tax system offers them a strong inducement to do 
so. They may do this by charging off each year outlays for 
enlargement and betterment of plant, which really represent 
new investments, by paying higher salaries, etc., than market 
conditions require, or by deliberate fraud in making their 
reports to tax assessors. Unless coupled with a more rigid 
supervision of methods of accounting than has yet been 
adopted in the United States, except for interstate railroads 
and public service corporations in a few states, the net in- 
come tax, though so fair on its face, is really a highly unsatis- 
factory source of revenue. It is distinctly inferior as a 
means of gaging tax paying ability to the combined capital- 
stock and bonded-debt test. 
Special § 281. The special franchise tax is a tax upon those cor- 

porations which enjoy peculiar privileges in connection with 
the use of the streets or other public property. As developed 
in New York State it subjects such special franchises to taxa- 
tion as real estate and is thus a part, though a peculiar part, 
of the general property tax. The history of this tax is inter- 
esting. As is well known few corporations have proved so 
successful as those described as public service corporations, 
that is, gas, electric lighting, street railway, telephone and 
analogous companies. Under the old law these corporations 
were, subject to the general property tax like individuals, 
that is, to a tax on their real estate and tangible personalty. 
When the attempt was made, however, to tax them also on 
their franchise privileges, which had become enormously 
valuable, on the ground that these also were a form of per- 
sonal property, the courts held that they were not personal 



Franchise 
Taxes. 



SPECIAL FRANCHISE TAXES 497 

property for purposes of taxation. In this dilemma the legis- 
lature of New York State passed in 1899 the so-called Ford 
Special Franchise Tax law, which declared special franchises 
real estate and directed the state board of tax assessors to 
assess them as such. After a long legal contest the act was 
sustained not only by the courts of the state of New York, 
but by the United States Supreme Court. As the propriety 
of taxing these special privileges as they become valuable 
along with other property is generally conceded, New York's 
plan is very likely to be followed by other states. This lends 
more than local interest to the question of the effect of such 
taxes. 

Like the tax on land a tax on the value of a special and Their Re- 
exclusive franchise must be paid by the owner of the fran- semblance 
chise. The imposition of the tax alters in no respect the 
terms on which he renders his service to the community nor 
the price which he receives for that service, and, consequently, 
it cannot be shifted. Moreover, like the tax on land the spe- 
cial franchise tax is capitalized at the current rate of in- 
terest and deducted from the value of the franchise as an in- 
vestment. Thus the whole burden resulting from making 
special franchises subject for the first time to taxation at the 
rate applying to other property falls upon the investors in- 
terested in special franchise corporations at the time the tax 
goes into force. After the value of the securities of such 
companies is readjusted to the new conditions they pass to 
new owners at prices that make full allowance for the tax 
and, consequently, the tax is not felt by such new owners as 
a burden. We thus have here another instance of a tax that 
becomes virtually burdenless as it becomes old. 

In other states than New York special franchises may be 
taxed as personal property, if the courts approve, or under 
franchise taxes applying expressly and exclusively to them. 
But, however they may be designated, the same reasoning ap- 
plies to them as to taxes on land. When first levied they are 
capitalized and impose a serious burden on the franchise 
owners. As time goes on and new owners acquire the fran- 
chises they become burdenless, so far as investors are con- 
cerned. 



Taxes. 



498 EXPENDITURES AND REVENUES 

Liquor | 282. License taxes have received their highest develop- 

License nient in the United States in connection with efforts to control 
the liquor traffic. Beginning as moderate charges for the 
privilege of engaging in the liquor business they have grown 
until now under the high license system in force in the larger 
cities they require the annual payment of $1,000 or more for 
the privilege of maintaining a saloon, and of proportionate 
amounts for that of engaging in other branches of the liquor 
business. Space will not permit an exhaustive consideration 
of the effect of high license taxes but a few of their advan- 
tages may be emphasized. They are easily assessed and col- 
lected and they have proved a source of large revenue. They 
compel concentration of the business affected into fewer estab- 
lishments and this makes supervision easier and more efficient. 
The economies resulting from this concentration are so great 
that it may be doubted whether they lessen greatly the profit 
of those obtaining licenses on the one hand or add appreciably 
to the prices charged for the commodities sold under the 
license system on the other. Retail trade, whether in liquors, 
or in drugs, milk, ice, groceries, provisions, or even merchan- 
dise, is strikingly wasteful when exposed to the effects of an 
unregulated competition. The needless multiplication of stocks 
and selling places, the reckless entry into the field of men 
with little capital and less experience due to the feeling that 
any one can keep a store ' ' and the losses which result owing 
to the fact that only competent persons can make storekeeping 
pay, the costly duplication of distributing machinery — all 
these aspects of retail trade supply telling arguments against 
a competitive organization of industry. The high license sys- 
tem, although not primarily intended for that purpose, sub- 
stitutes regulated for unregulated competition. It is believed 
to be within the truth to claim that more than half of the 
revenue that the government derives from license taxes is 
wealth that without the moderate regulation the system im- 
poses would have been wasted in a vain competition. The 
incidence of the remainder of the tax is similar to that of 
excise or customs taxes. In the case of liquor licenses a part 
of it is probably borne by the holder of the license and part 
of it by the consuming public in the slightly higher prices 



INHERITANCE TAXES 499 

they are required to pay for the same quantity and quality of 
liquor. 

§ 283. Inheritance taxes are becoming a very common Inheritance 
source of revenue in the United States as they have long been Taxes, 
in Europe. The question who pays them can be answered 
with ease and certainty, as they present no possibility of 
shifting. They must lessen the inheritance and in this way 
fall upon the heir. Their payment, unless they are excessive, 
will not usually, however, be looked upon as a burden. Those 
who inherit property usually need the protection of the gov- 
ernment against the pretensions of other claimants. Their 
thoughts are naturally fixed on the share of the inheritance 
that is to come to them, and if the inheritance tax is an estab- 
lished institution they are apt to accept it as a fair means 
of compensating the state for its part in securing to them 
whatever may be left. Inheritance taxes thus combine in un- 
usual degree the characteristics of a good form of taxation : 
they may be easily and fairly assessed and collected; they 
cannot be shifted and consequently have no tendency to in- 
terfere with business relations; they impose little or no felt 
burden upon those out of whose inheritances they are paid. 
The principal difficulty that arises in connection with their 
use is to decide at what rate they should be imposed. On this 
point, as is explained in the next chapter, the practices of dif- 
ferent countries vary widely. 

REFERENCES FOR COLLATERAL READING 

* Adams, Science of Finance; *Seligman, Essays in Taxation, The 
Shifting and Incidence of Taxation and Progressive Taxation; Bastable, 
Public Finance; Daniels, Elements of Finance; Plehn, Introduction to 
Public Finance. 



CHAPTER XXVII 



PRESENT TAX SYSTEM OF THE UNITED STATES 



Practical 
Aspects of 
Taxation. 



The Tariff 
System of 
the United 
States. 



Customs 
and In- 
ternal 
Revenue 
Duties 
Compared. 



§ 284. Before attempting to discuss the effect upon the 
distribution of wealth of the various taxes considered in the 
last chapter and to formulate suggestions for the reform of 
the taxing system of the United States, it will be well to re- 
view very briefly some of the practical aspects of the more im- 
portant taxes now in operation. 

The tariff system of the United States has already been 
discussed at some length.* In its present form it may be 
fairly characterized as a plan by w^hich the machinery of 
taxation is employed for industrial rather than for fiscal pur- 
poses. From the point of view of public revenue it is open 
to criticism because the burden which it imposes upon tax- 
payers is out of all proportion to the income which it affords 
the government. This results from the fact that the principal, 
and, of course, deliberately intended, effect of the tariff is to 
force consumers to buy, not foreign goods subject to the 
duties, but domestic products enhanced in price because of 
the duties. This, it need hardly be said, is no conclusive 
argument against the tariff, but it makes its discussion merely 
as a plan of taxation entirely profitless. 

From the point of view of revenue customs duties have in 
recent years been somewhat more productive in the United 
States than internal revenue duties. Thus during the ten 
years 1902 to 1911 customs duties yielded on an average 
$292,900,000 a year as compared with $259,900,000 from in- 
ternal revenue taxes.f Because of the complexity of the cus- 



* Chapter XXII. 

t The $33,500,000 received from the new corporation tax in 1911 
caused internal revenue duties to exceed customs duties in that year. 
With the addition of an income tax to the revenue system the balance 
promises in the future to be on the side of internal revenue duties. 

500 



INTERNAL REVENUE STAMPS 501 

toms tariff system the cost of collecting these duties as re- 
ported by the Secretary of the Treasury averages about 
double the cost of collecting the internal revenue duties. 
Thus for the fiscal year ending June 30, 1911, the cost of col- 
lecting customs duties equaled 3.5 per cent of the receipts and 
of internal taxes only 1.5 per cent of the receipts. 

§ 285. The internal revenue system of the United States The Present 
is one of the most valuable fruits of the extraordinary finan- Internal 

cial expedients made necessary by the country's wars. Its I^^"^^"ii6 
1 £a • J s • ■ System, 

proved emciency and economy as a means ot raising revenue 

assure it a permanent place in the taxing system of the coun- 
try and also throw upon it the burden of providing additional 
revenue to meet emergencies such as that presented by the 
recent Spanish- American war. Under the law in force July 
1, 1912, the principal commodities subject to internal revenue 
duties were: Distilled spirits, manufactured tobacco, fer- 
mented liquors, oleomargarine, adulterated butter, filled 
cheese, mixed flour, white phosphorus matches and playing 
cards. From the first three commodities $287,000,000 out 
of the total of $289,000,000 collected from all together in 1911 
were obtained. The oleomargarine tax yielded in that year 
$1,000,000 and the playing cards tax $583,000, so as sources 
of revenue the other commodities are negligible. 

The remarkable productiveness of the taxes on liquors and 
tobacco demonstrates the ease with which all the revenue that 
the country requires from customs duties might be obtained 
from taxes on these same commodities and on the few im- 
portant articles that are not produced in the United States 
in appreciable quantities, such as coffee and tea, should the 
decision be reached to substitute a tariff for revenue only for 
the present protective tariff. 

One reason for the success of the internal revenue system stamps as 
is the very simple stamp device by means of which the taxes Means of 
are collected. This was introduced by the act of July 20, Collection. 
1868, which required revenue stamps to be purchased from 
the government and to be attached to commodities subject 
to the tax in such a way that they must be broken when the 
package or barrel was opened. By this means every citizen 
is put in a position to know whether the articles that come 



502 PRESENT TAX SYSTEM OF UNITED STATES 



Tax. 



under his notice have satisfied the requirements of the law 
and to act as an efficient assistant to the tax collector. 
The Income Growing dissatisfaction with a revenue system depending 
^^^* so exclusively on taxes on articles of consumption led in 1909 

to the imposition of a federal tax of one per cent a year on 
the net incomes of corporations and to the submission to the 
people of an income tax amendment to the Federal Constitu- 
tion, which was finally ratified by the necessary three-fourths 
of the states in February, 1913. As this book goes to press 
a federal income tax applying to personal as well as corporate 
incomes is about to be enacted by Congress. 
The General § 286. As already stated the general property tax is the 
Property chief source of state and local revenues in most of the states. 
There is, however, a marked tendency in such states as New 
York, Massachusetts, Pennsylvania and New Jersey to re- 
linquish this source of income to the local governing bodies, 
the states depending for their revenues upon corporation, in- 
heritance and license taxes. One reason for this change has 
already been touched upon. With the great increase of cor- 
porate wealth and corporate securities which so readily evade 
taxation in the hands of holders, public opinion has demanded 
the introduction of taxes applying directly to corporations. 
As these have been developed they have proved so productive 
as sources of revenue that the more highly organized indus- 
trial states have been able to forego the income formerly de- 
rived from the general property tax. 

Another reason has been the fact that the general property 
tax has proved even more unfair as a source of state than as 
a source of local revenue. The assessment of this tax calls for 
intimate knowledge of local conditions and has, consequently, 
been intrusted to local assessors. When the decisions of these 
assessors have determined the proportion of state taxes paid 
by the locality, they have been under a strong temptation to 
undervalue property in their districts so that the tax bills of 
their friends and neighbors might be lower. Wide discrepan- 
cies have thus appeared between the actual and the assessed 
value of property. According to a careful report prepared 
by the Pennsylvania Tax Conference referring to the years 
1891 and 1892 the assessed value of real estate in the different 



"Unequal 
Assess- 
ments. 



GENERAL PROPERTY TAX 503 

counties of that state varied all the way from only 20 per 
cent (Lucerne County) to 93 per cent (Northumberland) of 
the market value as indicated by actual sales. This is fairly 
typical of the situation produced in all of the states by the 
policy of depending upon local assessors to assess property 
for purposes of state taxation. To lessen the great injustice 
that would result from unequal assessments most of the states 
have created state boards of equalization whose task it is to 
make the assessments uniform. Notwithstanding the usually 
efficient work of these boards inequalities have persisted and 
the abandonment of the general property tax for state pur- 
poses has proved the simplest way to correct the evil. 

In New Jersey and Pennsylvania the states have desisted Abandon- 
altogether from taxing real estate for state purposes and in "^^^* °^ 

Grfi TIG 1*3.1 

Pennsylvania the larger part of the proceeds of the personal 
property tax still collected is returned to the counties and ,j,^^ ^^j. 
cities which collect it. In New York the constitution requires state 
the imposition by the state of the general property tax, to Revenue, 
provide a sinking fund for the canal bonds outstanding. The 
rate, however, has been reduced to the lowest point permitted 
by this constitutional restriction, so the tax has ceased to be 
of any special consequence to the state government. 

§ 287. Although the general property tax is thus losing its Disadvan- 
importance as a source of state revenue, its position as the t^ges of 
mainstay and dependence of local governing bodies is un- 
shaken. In view of the larger revenues needed by local gov- ,j,^^_ 
ernments and especially by the cities, this makes the inequali- 
ties inherent in this form of taxation the more glaring. The 
tax rates imposed in different cities range all the way from 
one to three per cent. In New York City the rate, which was 
for many years over two per cent, has been lowered as a result 
of the introduction of the special franchise tax and of the sys- 
tem of assessing real estate at its full value instead of at only 
65 per cent of its value as formerly, until it is now (1912) 
about one and one-half per cent. Even this rate if applied as 
the law requires to such personal property as unregistered rail- 
road bonds would in some cases take from the taxpayer about 
one-third of his income. No one would think seriously of de- 
fending an income tax which imposed such a heavy burden 



504 PRESENT TAX SYSTEM OF UNITED STATES 



Sources of 
Revenue 
of New 
York 
State. 



Corporation 
Taxes. 



as this upon taxpayers and it is partly because the tax is 
felt to be so disproportionally high on those owners of per- 
sonal property who pay it that public opinion fails to con- 
demn' very severely those who do not. Thus the wholesale 
evasion of the tax by the vast majority of owners of personal 
property makes the assessed value of such property but a 
fraction of the actual value. The low assessment in turn 
necessitates a high rate of taxation if the needed revenue is 
to be secured. This high rate is an added injustice to those 
who are conscientious about paying the tax and serves to in- 
crease the number who determine to evade it altogether. This 
is the vicious circle in which the attempt to tax personal 
property has involved most American communities and there 
is no way of escape from it short of the frank abandonment 
of this species of taxation. 

Many of the states, like New York, which cling to the form 
of the general property tax, have largely abandoned the sub- 
stance. Beginning with the substitution of a registration fee 
of one-half of one per cent for mortgages in lieu of all other 
taxes, that state now permits the registration of bonds and 
other evidences of indebtedness on payment of the same fee, 
and exempts registered evidences of debt from other taxation. 
It is significant that under this plan more revenue has been 
secured from these forms of personal property than was de- 
rived from them when they were subject to the higher but 
easily evaded annual exactions of the general property tax. 

§ 288. The present financial system of the state of New 
York is fairly typical of the form which state finances seem 
likely to assume all over the country. During the year ending 
September 30, 1912, the income of the state from all sources 
(exclusive of loans) equaled $50,040,000 and of this sum $31,- 
914,000, or nearly 64 per cent, was derived from three sources : 
the taxes on corporations ($10,349,000), the tax on inheri- 
tances ($12,153,000), and liquor license taxes ($9,412,000). 

The taxes imposed on corporations are usually described as 
franchise taxes, but assume a great variety of forms. The 
principal taxes in force January 1, 1913, were: 

(1) An incorporation tax of one-twentieth of one per cent 
of the authorized capital. 



CHANGES PROPOSED 505 

(2) A general corporation or franchise tax upon each dol- 
lar of the capital stock equal to one-quarter of a mill for each 
one per cent of dividends declared on capital stock employed 
within the state if such dividends equal or exceed six per cent 
of the par value of such capital stock. If the dividends are 
below six per cent the tax is one and one-half mills for each 
dollar of the value of the capital stock employed in the state. 

(3) A tax of one per cent on the capital and surplus of 
banks and trusts companies and on the surplus and undivided 
profits of savings banks. 

(4) A tax of one per cent on the gross premiums of insur- 
ance companies. 

(5) A tax of one-half of one per cent on the gross receipts 
from business done within the state of steam surface railroad, 
canal steamboat, ferry, express, navigation, pipe line, transfer, 
baggage express, telegraph, telephone, palace car and sleep- 
ing car companies and other corporations engaged in trans- 
portation and not enumerated under (6). 

(6) A tax of one per cent on the gross receipts of elevated 
and surface railroads not operated by steam, and water, gas 
and electric lighting, heating and power companies, plus a 
tax of three per cent on the dividends in excess of four per 
cent on the paid-in capital declared by such companies. 

It will be seen that these taxes impose considerable burdens Changes 
upon all classes of corporate enterprises. The chief respect in Proposed, 
which they are open to criticism is in accepting gross receipts 
as an indication of tax paying ability and in failing to provide 
for the taxation of the bonds of corporations. A fairer plan 
of taxation would be that already referred to which takes the 
business man's valuation of the whole corporate enterprise as 
indicated by the current prices of its bonds and stocks as the 
criterion of tax paying ability and taxes it at a uniform rate. 
This plan has been sanctioned by the courts even in connec- 
tion with the taxation of corporations engaged in interstate 
commerce when some reasonable plan (e. g., proportional mile- 
age within the state) for determining what part of this value 
is located within the state has been adopted. Besides affording 
a fairer basis of assessment, this plan has the merit of taxing 
investors interested in corporations as owners of bonds as well 



Tax, 



506 PRESENT TAX SYSTEM OF UNITED STATES 

as stockholders. Under the New York system the former still 

escape all taxation, except when they conscientiously return 

their bonds for the personal property tax or pay the special 

registration fee of one-half of one per cent authorized in 1911 

as a substitute for other tax liability. This is unjust, whether 

regarded from the point of view of the majority who evade 

the tax or that small minority which pays it. 

The § 289. In addition to the corporation taxes that have been 

Special described. New York has the peculiar tax on special franchises 
Franchise 

as real estate discussed in a previous section. Although of no 

great importance as a source of state revenue, since the state 
tax on general property is now so small, this has proved a very 
valuable resource for the cities of the state. Its importance 
for New York City alone may be judged from the fact that 
the assessed value of the special franchises of the public serv- 
ice corporations making use of its streets in 1905 was fixed at 
$302,000,000. With a tax rate of one and one-half per cent 
this means a yield of $4,500,000 unless some of the assessments 
are reduced on appeal. Adding this to the taxes paid by these 
same companies on their real estate and directly to the state 
as ordinary franchise taxes, it appears that considerable prog- 
ress has been made toward making these monopolistic busi- 
nesses bear their proportion of the tax burden. 

Inheritance § 290. The first inheritance tax imposed by an American 
axes m g^ate was through an act passed by the legislature of Pennsyl- 

States vania in 1826. It applied only to collateral inheritances, as 

do the inheritance taxes now imposed by sixteen of the thirty 
states which have availed themselves of this source of revenue. 
As now levied inheritance taxes assume all degrees of com- 
plexity from the simple tax of five per cent on all inheritances 
passing to collateral heirs and strangers in blood of Virginia, 
Missouri and Arkansas, three of the states which do not tax 
direct inheritances at all, to the elaborate classified tax 
adopted by the legislature of Wisconsin in 1903. This distin- 
guishes five classes of heirs and makes them subject to taxes 
progressing, in the case of direct heirs, from one per cent to 
three per cent, and in the case of collateral heirs and strangers 
in blood from five per cent to fifteen per cent according to the 
size of the estate. Exemptions of varying amounts ranging 



INHERITANCE TAXES 507 

from $100 in case of the last class to $10,000 in the case of 
widows are also allowed. From the point of view of revenue 
the inheritance tax of New York, which is now (1913) at 
rates advancing from one to four per cent, depending on the 
size of the estate, on estates above $5000 passing to direct 
heirs and to brothers and sisters and sons- and daughters-in- 
law, and at rates advancing from five to eight per cent, de- 
pending on the size of the estate, on other inheritances above 
$1000, is most productive, realizing for the state treasury 
over $12,000,000 in 1912. The only other states which de- 
rive large revenues from this source are Pennsylvania and 
Wisconsin. 

Comparing these results with those attained in foreign And 
countries which tax inheritances, it would appear that the Abroad. 
United States has only just begun to test the possibilities of 
this form of taxation. Great Britain in 1900, a fairly typical 
year, derived a revenue of some $92,000,000 from her different 
taxes on inheritances, or nearly one-fifth of her total national 
revenue from taxation. France obtains from this source some 
$40,000,000 annually, or about nine per cent of her national 
revenue, exclusive of that from the state monopolies. Even 
more significant is a comparison of the per capita returns 
from these taxes in different countries. A table prepared by 
Professor Millis * comparing the returns from inheritance 
taxes for the years 1899 to 1901 shows that Great Britain de- 
rives some $2 per capita annually from this source and France 
over $1. The per capita return for New York State, on the 
other hand, was only forty-nine cents, for Pennsylvania 
twenty cents, and for the majority of the states which have 
Inheritance taxes less than ten cents. 

The principal reason for the larger returns of these taxes Justifica- 
in Great Britain and France is that both apply the progres- *^°^ °^ 
sive principle in somewhat the same way as does the Wiscon- 
sin law. Thus the highest rate in Great Britain on very large 
estates passing to distant relatives or strangers in blood is 
19J per cent and the highest rate in France 20^. These 
rates are justified on two grounds. First, it is asserted that 
from the point of view of the heir it is not what the govem- 
*Quarterly Journal of Economics, Vol. XIX., p. 308. 



508 PRESENT TAX SYSTEM OF UNITED STATES 



Taxes 
Impose 
Little 
Burden 
on Heirs. 



ment takes but what is left that is significant and that when 
the estate is large the government may take even one-fifth of 
the whole amount without imposing too heavy a burden. Sec- 
ond, it is believed that from the point of view of the testator 
the prospect of leaving property to distant relatives or 
strangers plays but a small role as a motive to accumulation 
and that, consequently, such progressive rates have little or no 
tendency to discourage saving. 
Inheritance § 291. The validity of the first justification will hardly be 
questioned when the relation of the state to property left at 
death is considered. Such property does not belong by abso- 
lute right to any one. In modern communities the right of 
disposing of property after death is recognized and protected 
but always under definite limitations designed to promote the 
general well-being.* Wives have certain rights in the estates 
of their husbands of which they cannot be deprived by will. In 
most countries children also have certain rights which the 
state undertakes to safeguard. The law properly protects the 
owner of property in its full enjoyment during his lifetime, 
even to the extent of putting no obstacle in his way if he 
wishes to distribute it among his family or friends before his 
death. When he dies, however, the disposition of the prop- 
erty which he preferred to retain as his own to the very end 
assumes large social significance. No one now has a claim 
upon it comparable from the social or legal point of view with 
that which has been dissolved by the death of the owner. But 
his " dead hand " cannot be permitted to determine what 
shall become of it regardless of the interests of the living. In- 
fact, the interests of the living are now the paramount con- 
sideration. The heirs designated in the will of the deceased, 
if he has made a will, are entitled to receive that part and 
only that part of the estate which the law permits. If he has 
made no will then the question of the division of the property 
is one for the law alone to determine. The imposition of an 
inheritance tax is simply the assertion by the state of a right 



* This right is essentially modern. It is not necessary to go back 
very far in the evolution of law to find property left at death reverting 
to the state or ruler as a matter of course. Cf. Ely, Evolution of 
Industrial Society, Chapter on Inheritance Taxes. 



INHERITANCE TAXES AND SAVING 509 

to a share in property left at death under the conditions set 
forth in the tax law. If the share taken by the state is 
moderate, there is every reason to think that the heirs will 
accept it as a matter of course and think gratefully of the 
part that is left to themselves rather than grudgingly of the 
part which they do not receive. There thus appears to be 
good ground for the claim that moderate inheritance taxes 
increasing from one per cent on inheritances above a certain 
amount left to direct heirs even to as much as twenty per cent 
on very large estates passing to collateral heirs or strangers do 
not impose a burden that is consciously felt by any one. They 
certainly do not impose a burden on the testator since he is 
dead; almost as certainly they do not impose a burden upon 
the heir as he is usually too much interested in what he re- 
ceives to feel the loss of the portion retained by the govern- 
ment. 

The second contention, that is, that moderate taxes of this Tendency 
kind do not discourage the accumulation of property, must *° ^^^" 
be accepted with some qualifications. What may be claimed ^°^^*^® 
with confidence is that the discouragement will be too slight Question, 
to offset to any considerable degree the fiscal advantages of able, 
such taxes. The motives that lead to the accumulation of 
property are strong and are each year growing stronger. 
There is little danger that moderate taxes imposed upon in- 
heritances will retard appreciably the accumulation of the 
fund of capital upon which the efficiency of industrial proc- 
esses so largely depends. Thus from every point of view the 
taxation of inheritances, if not pushed too far, appears to 
satisfy the requirements of just and reasonable taxation. Such 
taxes are easy to assess and collect. They cannot be shifted 
and yet they impose little or no burden upon those whose in- 
heritances are lessened in consequence of their existence. Fi- 
nally, they have no bad effects upon industrial society, compa- 
rable with the revenue which they afford to the state. Under 
these circumstances it is not surprising that they are coming 
to be more and more important sources of income in all pro- 
gressive countries. 

§ 292. In addition to the taxes which have been discussed 
there is one which merits serious consideration because of the 



510 PRESENT TAX SYSTEM OF UNITED STATES 



The Income prominent place it is likely to take in the near future as a 
Tax of source of federal revenue, that is, the income tax. The simi- 

the United j^^j^y between the two countries makes the operation of this 
^"^ ' tax in the United Kingdom of most interest to students of 
taxation in the United States. As there assessed it is a tax 
at a uniform rate on incomes from all sources, incomes being 
classified for convenience of assessment under five schedules. 
One of its principal characteristics from the point of view of 
administration is the full use made of the device known as 
'' stoppage at the source." For example, the tax is deducted 
from the salaries of public officials and from the interest on 
the public debt before payment is made to those entitled to 
receive income from these sources. Again, corporations are 
required to deduct the tax from the interest and dividends 
which they pay to their bond and share holders. Finally, 
even the financial agents who collect incomes from the bonds 
or stocks of foreign corporations are required to report the 
amounts collected and the names of their clients to the gov- 
ernment before they surrender the income to those to whom 
it belongs. 

Notwithstanding the high development of this method of 
taxing the income as it arises, there are certain sorts of income 
that can only be assessed on the basis of the personal declara- 
tion of the recipient. This is the case to a large extent as 
regards income from foreign investments and almost wholly 
as regards income from " trades and professions." It is in 
connection with the assessment of these incomes that the in- 
come tax is least satisfactory. What proportion escapes as- 
sessment can only be guessed at, but all authorities agree that 
it is considerable. Thus, according to the estimate of Sir 
Robert Giffen the returns from foreign investments received 
by inhabitants of the United Kingdom equaled in 1882 some 
seventy-five and in 1885 some eighty-five million pounds ster- 
ling. The returns assessed under the income tax in these 
years amounted to only thirty and thirty-five million pounds, 
respectively. The same authority estimates that in 1885 only 
about eighty-five per cent of the incomes from trades and 
professions which were subject to the income tax were hon- 
estly reported. Although it is impossible to say what propor- 



Extent of 
Evasions. 



THE BRITISH INCOME TAX 511 

tion of the total income evades taxation, it is probably well 

within the truth to put it at ten per cent.* Since, however, 

these evasions include a variety of incomes there is no reason 

to think that they involve any shifting of the tax on the part 

of those who do pay it, as would be the case if incomes from 

some one special trade or profession escaped while incomes 

from all other sources were taxed. 

§ 293. From the point of view of revenue the income tax is Its Impor- 

an important part of the British fiscal system not only be- t^-nce and 

cause it yields in ordinary j^ears from one-sixth to one-seventh . °^''^®^' 

.. . . . . . „ lence as a 

of the entire imperial mcome, but because m time oi emer- go^irce of 

gency its yield can be largely increased by simply adding to Revenue, 
the rate of taxation. This characteristic of the tax is so 
highly appreciated that it is now voted afresh each year at 
just that rate which the fiscal requirements of the govern- 
ment make desirable. It thus serves to give flexibility to the 
public revenues and to make possible a more exact balancing 
of revenues and expenditures than can be attained by coun- 
tries which are without some such elastic source of income. 
The tax is so drafted as to allow only moderate exemptions — 
in 1904 an exemption of $800 on incomes under $2000, of 
$750 on incomes between $2000 and $2500, of $600 on in- 
comes between $2500 and $3000 and of $350 on incomes be- 
tween $3000 and $3500, but no exemption on incomes above . 
$3500. The rate has varied considerably in recent years in 
consequence of the extraordinary expenditures necessitated 
by the Boer War. For the six years 1895 to 1900 it was main- 
tained at eightpence in the pound (that is, 3| per cent). 
In 1901 it was advanced to one shilling in the pound, or five 
per cent, and it has since (in 1903) been as high as one shil- 
ling, threepence in the pound, or 6^ per cent. In the last 
year the tax brought in nearly one-fourth of the entire im- 
perial revenue ; and it is clear evidence of the efficiency of the 
administrative machinery by which it is assessed that there 
was no perceptible increase in the extent to which the tax was 
evaded, notwithstanding the unusually high rate of taxation. 
§ 294. In the United States income taxes have been em- 
ployed by both the state and the federal governments. Alto- 
* Cf., Hill, The English Income Tax, pp. 382-387. 



512 PRESENT TAX SYSTEM OF UNITED STATES 



Income 
Taxes 
in the 
United 
States. 



Former 
Income 
Taxes. 



The In- 
come Tax 
Amendment 
of 1913. 



gether some sixteen states have imposed this tax at some period 
of their history, but of these only six continued to use it Janu- 
ary 1, 1903.* The principal defect in the tax as a state tax 
is that it is difficult to assess it fairly and that when it is im- 
posed it has a tendency to drive persons with large incomes 
into other states where no such tax is found. Notwithstanding 
these disadvantages, the tax is relied upon by some of the 
most progressive states (e. g., Wisconsin) as an important 
source of revenue. 

Reference has already been made to the country's experience 
with a federal income tax. During the Civil War when Con- 
gress was making use of every possible form of taxation an 
income tax was imposed which was continued in force from 
1863 to 1873. Although somewhat crudely devised and never 
very efficiently administered, this tax brought into the treas- 
ury in 1866, the year of largest yield, nearly $73,000,000. On 
the strength of this experience the tariff-reforming Congress 
elected in 1892 included an income tax as a prominent feature 
of the revenue law passed two years later and commonly re- 
ferred to as the Wilson Act. This tax was at the uniform 
rate of two per cent and applied to the net incomes of corpora- 
tions as well as to those of individuals. Personal incomes 
were allowed an exemption of $4000. It was thus practically 
a tax on the well-to-do from which persons in moderate cir- 
cumstances were exempt — except as they were investors in 
corporate enterprises — and was justified on the ground that 
other federal taxes, that is, customs and excise duties, fall 
chiefly on the poor. 

How successful this tax might have been as a means of rais- 
ing revenue will never be known, since it was declared uncon- 
stitutional by the Supreme Court of the United States during 
the first year of its operation on the ground that it was a 

direct ' ' tax in the constitutional sense and must, therefore, 
be apportioned, if imposed at all, according to the population. 
The income tax amendment to the Constitution which became 
operative in 1913 declares that '* The Congress shall have 
power to lay and collect taxes on incomes, from whatever 

*Cf., Kinsman. The Income Tax in the Conimonioealths of the United 
States, pp. 110 ef seq. 



FEDERAL INCOME TAX 513 

source derived, without apportionment among the several 

states, and without regard to any census or enumeration." 

With this article added to the Constitution Congress is now 

as untrammelled as is the British Parliament in the use that 

it may make of this source of revenue. 

§ 295. The principal arguments in favor of a federal in- Argu- 

come tax are the fairness of such a tax in itself, the success ^^^^^ ^°^ 

of such taxes in the United Kingdom, Prussia and other _ , , 

. a Federal 

European states, and the need of a tax that will fall on per- income 

sons of substance as a supplement to the customs duties and Tax. 
excise taxes already imposed, which fall so largely on the 
wage-earning class. To these arguments must be opposed the 
following considerations. The fairness of an income tax is 
contingent on the accuracy with which it is assessed and col- 
lected. Unless evasions are largely prevented such a tax may 
in practice prove extremely unfair. Neither the experience 
of the United States with the income tax during and after 
the Civil War nor a consideration of the conditions that are 
necessary to the accurate assessment of this tax affords con- 
vincing evidence in favor of its re-introduction. Moreover, 
the experience of other governments with the income tax can- 
not be accepted as conclusive proof that its operation will be 
successful in the United States. A system of taxation that 
would suit very well small and homogeneous countries like 
the United Kingdom or Prussia might be quite unworkable 
in the United States. There is not only the immensely greater 
area of the country to be taken into account, but the diversity 
of business conditions, and of public opinion with reference 
to taxation. Much more significant than foreign experience 
is the experience of American states with the personal prop- 
erty tax. The accurate assessment of incomes is nearly if 
not quite as difficult as the accurate assessment of property. 
In both instances large reliance must be placed on the hon- 
esty of the taxpayer. Unfortunately the attitude of mind 
that has become common in this country with reference to 
obligations to the government, and particularly the Federal 
Government, is not calculated to inspire confidence in the 
accuracy of income declarations. Doubtless this attitude is 
susceptible of correction. A willingness to make sacrifices 



514 PRESENT TAX SYSTEM OF UNITED STATES 



Taxation 
and Dis- 
tribution. 



for the common good in times of peace as well as in times 
of war and an appreciation of the fact that the government 
stands for the common good should and, indeed, must be 
developed. If the obligation to pay a tax in proportion to 
income to the Federal Government can serve to increase this 
willingness, it should prove of value as an educational force 
as well as as a source of revenue. Whether the new tax will 
prove a stimulus to patriotism or " debauching to the con- 
science and subversive of the public morals," like the dis- 
credited personal property tax, experience alone can deter- 
mine. 

§ 296. The question of the effect of a system of taxation 
upon the distribution of wealth is closely related to that of the 
shifting and incidence of taxes. The difference may be illus- 
trated by reference to the case of customs and excise taxes. 
Such taxes are paid in the first instance by business men, im- 
porters and dealers, who look upon them as items in their 
expenses of production. By them they are usually shifted 
to purchasers and ultimately to consumers upon whom they 
finally fall. But if such taxes are a permanent feature of 
the industrial situation the higher expenses of living which 
they cause will in their turn call for higher standards of 
living, as regards money earnings, on the part of the wage- 
earning population. If these develop and prove rigid enough 
to restrain the growth of population, money wages will rise 
to a point which permits the enjoyment of the same real 
wages as were secured before the taxes were imposed. Shall 
we say, then, that such taxes are paid by wage-earners or 
that they are shifted to employers who must pay them higher 
wages? But, if we are to follow them to employers we must 
obviously continue our inquiry and determine whether the 
latter really bear them in the form of lower profits. The 
matter becomes so complex at this point that it seems better 
to say, as we have already done, that such taxes are normally 
paid by consumers, and to leave their effect upon the distribu- 
tion of wealth for separate consideration. 

The relation between taxation and distribution is usually 
treated as though the two were separate and distinct proc- 
The laws of distribution are explained, as has been 



esses. 



LAND AND FRANCHISE TAXES 515 

done in this treatise, with the deliberate omission of taxes 
from the picture. Taxes are then brought in as a means by 
which incomes already distributed are laid under tribute so 
that the government may be maintained. Although a con- 
venient, this is a somewhat misleading, account of the matter. 
The government asserts its claim not after all other claimants 
have been satisfied but as promptly and even more imperi- 
ously than any other recipients of income. The payment of 
taxes is thus a vital part of the distributive process, differing 
from the payment of profits, rent, wages and interest, only in 
that the government's claim is based on superior force rather 
than on free contract guided by economic motive. This does 
not mean that the government may not be properly described 
as a factor in production and, therefore, entitled to a share 
of the product. Undoubtedly its part in production is of 
the most vital importance. It merely means that as this part 
is not based on contract, there is no method of measuring 
economically the amount of its contribution. It performs the 
indispensable services of protecting life and property, pre- 
serving order, administering justice, etc., and takes in return 
what it pleases, or rather what the citizens in a democratic 
country please to permit it. 

§ 297. From the point of view of their influence on the dis- land and 
tribution of wealth the taxes that have been discussed in the Special 
preceding pages may be divided roughly into three different ^^^"''p^^, 
classes. To the first class belong land and special franchise ^^^ ^f 
taxes. They fall upon what w^e have previously styled the Funded 
" funded " income that is given off year by year by perma- Incomes, 
nent and durable property, like land, as space to build upon, 
or by special and exclusive privileges, like franchises granting 
exclusive rights to lay tracks or string wires along the public 
streets. Normally such taxes have no effect on distribution 
except to divert to the use of the government a part of the 
income that would otherwise have gone to the o\Miers of the 
property or franchises taxed. Such property and franchises 
are already being made to yield all of the income that they 
can afford under the given circumstances and the imposition 
of the tax in no wise alters these circumstances. Thus the 
entire tax is paid out of the funded income. 



516 PRESENT TAX SYSTEM OF UNITED STATES 

Since the value of sources of funded incomes is the annual 
net income capitalized at the current rate of interest, a sec- 
ondary effect of such taxes is to reduce this value by the capi- 
talized value of the tax. If the tax is made so high as to take 
the entire funded income, the property or franchise which 
gives rise to it ceases to have any value as an investment. In 
practice, of course, taxes usually take only a portion of the 
funded income and merely reduce without destroying the 
value of the lands and franchises from which they come. 
From this relation between the rate of taxation and the value 
of the property taxed two principles are deduced of consider- 
able practical importance. First, new or higher taxes on land 
or special franchises, unless these are appreciating so as fully 
to offset such taxes, involve a forced reduction in the invest- 
ment value of the property taxed. Second, after such taxes 
have been imposed long enough to permit of the property hav- 
ing changed hands they become virtually burdenless so far 
as the current owners are concerned. 
Commodity The second class of taxes include those on commodities 
which are regularly produced and consumed and upon com- 
petitive businesses. These are normally shifted from those 
who pay them to those who consume the commodities or are 
served by the businesses taxed. Their effect on distribution 
is complex, but in general they may be said to figure among 
the conditions to which economic motives, such as standards 
of living and standards of saving, adjust themselves. A con- 
crete illustration will help to make the effect of such taxes 
clearer. In the United States at the present time the greater 
part of the federal revenue is derived from taxes upon com- 
modities which enter into the consumption of the ordinary 
wage-earning family, that is, on tobacco, liquors, sugar, cot- 
ton and woolen goods, etc. Suppose that these taxes add — and 
this is a moderate assumption — five per cent to the expense 
of living in this country. This higher cost of living has now 
been experienced for many years. It is one of the factors with 
which immigrants must reckon when they cross the ocean in 
pursuit of higher wages. Is it not probable that the higher 
cost of living has acted as a slight check upon the growth of 
population, partly by checking the birth-rate and partly by 



and Busi- 
ness Taxes. 



CONCLUSIONS 517 

discouraging immigration, so that it is one of the influences 
that account for the undoubted fact that the American stand- 
ard of living and scale of wages are higher than the European 
by more than enough to offset the higher cost of living in the 
United States? Or, to put the case negatively, if these taxes 
were all repealed and in their place a federal income tax 
were imposed exempting incomes under $5000 and at a rate 
sufficient to afford all needed revenue, is it probable that the 
wage-earning population of the United States would be per- 
manently better off? Would not a higher birth-rate and a 
larger tide of immigration before long so add to the labor 
supply that wages would be reduced by an amount corre- 
sponding to the low^ered cost of living ? Space will not permit 
an exhaustive discussion of these questions, but it should be 
clear that a higher cost of living, which is deliberately brought 
about and continued year after year through a country's tax- 
ing system, may be less of a hardship to wage-earners than 
is ordinarily supposed. From this brief discussion of this 
second class of taxes that is regularly shifted to consumers, 
two principles may be inferred. First, new taxes on com- 
modities that are regularly produced and consumed or on 
competitive businesses impose a burden on the persons who 
consume such commodities or who are served by such busi- 
nesses. Second, as time goes on there is a tendency toward 
readjustment which makes sUch taxes less and less objection- 
able the older they become. 

The third class of taxes include those on inheritances and Inheritance, 
those on incomes and general property when accurately as- Income 
sessed. These taxes cannot be shifted and, since they do not ^"^ ^®"' 
fall upon one particular kind of property as distinct from 
other kinds, neither can they be capitalized. Their effect upon xaxes. 
distribution is thus even slighter than that of taxes of class 
one, since they merely take from the incomes of different 
persons without altering their economic relations to others 
nor even reducing the value of their property for investment 
purposes. As was brought out in our discussion of these 
taxes, those on inheritances are least objectionable because 
least burdensome to those who must pay them. Those on 
income are admirable when they can be accurately and fairly 



518 PRESENT TAX SYSTEM OF UNITED STATES 

assessed, but they may be very unfair if evasions are com- 
mon. Finally those on general property fall in practice so 
far short of the ideal of taxing all property fairly and equally 
that they are not at all to be recommended. 

REFERENCES FOR COLLATERAL READING 

*Judson, Treatise on the Power of Taxation, State and Federal; 
*Howe, Taxation in the United States under the Internal Revenue 
System; Walker, Double Taxation in the United States; Ely, Taxation 
in American States and Cities; Worthington, Historical Sketch of the 
Finances of Pennsylvania; Eastman, Taxation for State Purposes in 
Pennsylvania; Robinson, A History of Taxation in 'New Hampshire 
Judson, Taxation in Missouri; Le Rossignol, Taxation in Colorado 
Kinsman, The Income Tax in the Commonwealths of the United States 
Plehn, The General Property Tax in California; Carver, The Ohio Tax 
Inquisitor Law; West, The Inheritance Tax; Rosewater, Special Assess- 
ments; Whitten, Taxation of Corporations in New Yorlv, Massacliusetts, 
Pennsylvania and New Jersey (in New York State Library Bulletins 
for 1901) ; * Durand, Finances of New York City; * Hollander, Financial 
History of Baltimore; Euebner and Millis, The Inheritance Tax in the 
American Commonwealths (articles in Quarterly Journal of Economics 
for August, 1904, and February, 1905) ; Urdahl, The Fee System in the 
United States; Chapman, State Tax Commissions in the United States; 
*Hill, The English Income Tax; *Reports of United States Commis- 
sioner of Corporations on the Taxation of Corporations. 



CHAPTER XXVIII 
REFORM OF TAX SYSTEM OF THE UNITED STATES 

§ 298. The reform of the taxing system of any country is Considera- 
complicated by the fact brought out in the last chapter, that *io"s Bear- 
as regards at least two great classes of taxes, old taxes are ^"^ °^ 
very much less objectionable than new ones. Since reform _ _ 
means usually substituting something new for something old forms, 
and established, this truth is well calculated to discourage re- 
forming enthusiasm. If the following suggestions as to 
changes that would be desirable in the taxing system of the 
United States seem conservative it is partly because the 
writer is convinced of the tendency of taxes like wine to im- 
prove with age and partly that he is, perhaps unduly, im- 
pressed by the administrative difficulties in the way of some 
of the taxes currently advocated. 

The first fact that must be borne in mind by the would-be 
reformer of taxing methods in the United States is the rela- 
tion between the fiscal requirements and the taxing powers 
of the different branches of the government. The Federal 
Government has limited functions to perform and almost 
unlimited taxing powers. For it the problem of securing 
adequate revenues is comparatively simple. The state gov- 
ernments in turn are in a position of ease, if not of affluence. 
The functions which they usually assume are few and inex- 
pensive, while their taxing powers are but slightly abridged 
by the federal and state constitutions. The situation is very 
different with the local governing bodies and especially the 
cities. Their needs, as already shown, call for twice as much 
revenue per capita as those of both state and nation together ; 
and at the same time their taxing powers are rigidly limited 
to those expressly conferred by state legislation. For them 
the problem of making ends meet is always acute and the 
chief questions about any new tax are : will the courts sustain 
it and will it bring in revenue ? 

519 



520 REFORM TAX SYSTEM OF UNITED STATES 

Sugges- § 299. In the opinion of the author it will be desirable, 

tions as to ^^^^ necessary, for the Federal Government to continue to 
Federal ^^^^ largely on customs and excise duties for the revenues it 
System. requires. For reasons that have already been explained he 
advocates the substitution of a tariff for revenue only for 
the present cumbrous protective tariff (Chapter XXII.), but 
this change need not and should not involve any considerable 
reduction in the receipts from customs duties. Such duties 
have the merit of being easy to assess and cheap to collect, 
and if fully balanced by taxes falling on persons with prop- 
erty in proportion to their means are not inequitable. The 
Federal Government should derive increasing revenues also 
from income taxes applying to corporations and to businesses 
generally and perhaps to personal incomes. It ought not, 
however, to attempt to draw too large revenues from corpora- 
tion and business taxes, because these must continue to be 
the chief dependence of the state governments, A final source 
of federal income which should prove increasingly important 
is from the rentals of public lands. Agricultural lands will, 
no doubt, continue to be made over outright in small tracts, 
to homesteaders who are willing to incur the expense and 
trouble of clearing them for cultivation. There seems no 
good reason, however, why grazing and mineral lands should 
not be leased to those who wish to use them on terms that 
will be at once fair to the users and favorable to the govern- 
ment. Leasing mineral lands on a royalty basis from private 
owners has become a common practice. Mining companies 
would be equally willing to lease government lands on the 
same basis if such a policy was definitely adopted by the 
authorities at Washington. Through this plan the immensely 
valuable coal and mineral lands still in the possession of the 
government might be made to yield a substantial revenue for 
an indefinite number of years. Some income ought also to 
be secured from the forest lands which the government has 
already withdrawn from private entry on a considerable 
scale. From these various sources the Federal Government 
can obtain ample revenues in the future as it has in the past. 
§ 300. Taxation depends so largely upon local conditions 
for its efficiency that suggestions in reference to desirable 



STATE TAX SYSTEM 521 

state and local taxes have little point unless it is clearly in- Heform 
dicated what types of state or branches of local government ^^ ^*^**^ 
are referred to. In what follows the writer has had in mind 
the conditions and needs of the more advanced industrial 
states and of the larger cities of the United States. Space 
precludes a discussion of the tax problems of all the different 
states, and this is the less necessary because those that are 
most advanced are already in the situation toward which the 
others are rapidly moving. 

The most important reform that is needed in connection General 
with state taxation is the abolition of the discredited general I'roperty 
property tax as a source of state revenue. The part of this 
tax which applies to real estate should be remitted not be- jghed. 
cause real estate is too heavily taxed but because all revenue 
from this source ought to be assigned to the local govern- 
ments whose needs so far exceed their taxing powers. The 
reason for abolishing the other part of the tax, that applying 
to personal property, is even stronger. Experience has dem- 
onstrated conclusively the impossibility of assessing such 
property fairly in complex industrial communities. Under 
these circumstances to continue the attempt to tax personal 
property is to bring the whole system of taxation into dis- 
repute. In place of the general property tax three fruitful 
sources of revenue are open to the state governments — inheri- 
tance taxes, corporation taxes and license taxes. 

The arguments in favor of taxing inheritances and the form Inheritance 

which such taxation may properly take have already been Taxes 

discussed at length. The Wisconsin law with its five distinct _ °^ , / 

H, , , , juXxciidcci* 

classes of heirs is perhaps more complicated than is desirable. 

It would probably suit American conditions better to dis- 
tinguish only two classes of heirs, those in the direct line and 
collateral relatives and strangers, or, at most three, those in 
the direct line, near collateral relatives, and more remote rela- 
tives and strangers. For each class an inheritance of a cer- 
tain size should be exempt from taxation, while larger in- 
heritances should be taxed at rates increasing with the 
amount of the inheritance. The range of progression should 
depend in part on local sentiment, but it is believed that no 
good reason can be urged against going at least as far as the 



Corpora- 
tion Taxes, 



522 REFORM TAX SYSTEM OF UNITED STATES 

Wisconsin law and making the highest rate applying to large 
inheritances passing to remote relatives or strangers fifteen 
per cent. The writer would even advocate the higher maxi- 
mum, twenty per cent, imposed in the United Kingdom and 
in France. The successful experience of New York with its 
moderate inheritance tax indicates that large revenues may 
be derived from this source without imposing any excessive 
burden upon taxpayers. 
The Best § 301. Qf the various plans that have been tried for tax- 

^^"^^''^ ing corporations the three that promise greatest success in 
the United States are by means of : ( 1 ) gross receipts taxes ; 
(2) capital stock and bonded debt or ordinary franchise 
taxes, and (3) special franchise taxes. Gross receipts taxes 
are not generally to be commended, but in connection with one 
form of business, that of insurance, they offer the easiest, 
surest and perhaps fairest method of taxation yet devised. 
For corporations generally the fairest basis of taxation is 
believed, for reasons already sufficiently explained, to be the 
aggregate value of the outstanding shares of stock and of the 
bonds. Together these reflect pretty accurately the normal 
earnings of corporations which constitute the best available 
test of tax paying ability. Until the states undertake to con- 
trol the bookkeeping of corporations so that the earnings 
themselves can be accurately assessed the stock-and-bond in- 
dex of earnings is undoubtedly the most reliable substitute. 
Even a moderate tax applying to all of the corporations doing 
business within a state in proportion to the amount of that 
business is capable, as the experience of several of the states 
demonstrates, of bringing in large revenues. The special 
franchise tax is advocated as a supplement to the ordinary 
franchise tax for corporations which enjoy special and ex- 
clusive privileges. Reasons have already been given for favor- 
ing the New York plan by which special franchises are 
assessed as real estate and the greater part of the pro- 
ceeds of the tax upon them is enjoyed by the local governing 
bodies. 

A serious obstacle which the states encounter in their 
efforts to secure larger revenues from inheritance and cor- 
poration taxes is the withdrawal of persons of large means 



EXTENSION OF LICENSE TAXES 523 

and of corporations to other jurisdictions. This might be Evasion 

overcome either by making the taxes imposed by neighboring °^ Taxa- 

states uniform or by causing the Federal Government to act , 

Non-resi- 
as the agent of all of the states in assessing and collecting ^e^ts 

these taxes, paying over to the states their proportionate 
shares of the proceeds less the expense of collection. In the 
United States some little progress has been made in the first 
direction, but it is still true that centers of population and 
of business like New York City suffer in consequence of the 
tendency of those who carry on business and make large for- 
tunes there to live outside the jurisdiction of the tax collect- 
ing authorities. The other plan of having uniform inheritance 
and corporation taxes imposed by the Federal Government 
would be much more satisfactory and, judging from European 
experience, it is one that is likely in time to find favor here. 
The chief obstacle to its adoption is the difficulty of deciding 
on a basis for the division of the proceeds among the states 
that would seem entirely fair. 

§ 302. Up to the present time the high license system has The High 
been applied only to the liquor business. The moral advan- I-icense 

tages of confining the selling of liquor to fewer establishments „P ^™_ 
o » -a Should Be 

and of having these in more responsible hands have been the Extended 
chief argument urged in its favor. Experience with it in 
operation has made prominent certain economic advantages 
which suggest the desirability of applying it to other branches 
of trade. The selling and distribution of milk, ice, groceries, 
provisions, etc., admit of even larger savings through the con- 
centration of management brought about by the high license 
system than the selling and distribution of liquors. These 
businesses offer a large and practically untouched field for 
the tax gatherer and just as the payment of high licenses has 
served neither to make the saloon business unprofitable nor 
to compel the consumer to pay much more for his beer and 
whisky so it is believed that the payment of high licenses 
by milk dealers, ice companies, grocers, butchers, etc., would 
serve merely to concentrate these businesses into fewer and 
more competent hands without appreciably raising the prices 
of the commodities sold. By extending its license system 
to include these and other businesses every state in which 



524 REFORM TAX SYSTEM OF UNITED STATES 



The Real 
Estate 
Tax Should 
Be Subdi- 
vided into 
a Land 
Tax and 
a Build- 
ings Tax. 



large cities are found might put itself in a position to dis- 
pense with the returns from the general property tax. 

§ 303. The local governing bodies must doubtless continue 
as at present to derive the greater part of their revenue from 
the taxation of real estate. In so doing, however, they ought 
to differentiate the land or ground tax from the building tax 
and allow these taxes to go different ways. With the abolition 
of the tax on personal property special property taxes remain 
in place of the general property tax and these must be de- 
fended upon independent grounds. A moderate building tax 
may be defended because it selects a reasonable criterion of 
tax paying ability, that is, the sort of house or place of busi- 
ness a person occupies, and bases its exaction upon that; but 
it should not be confused with the land tax. A tax on land, 
if of old standing, finds sufficient justification in the fact that 
those who pay it no longer feel it as a burden. To relax it 
would be to make them the surprised recipients of income 
which they had long ceased to think of, or had never thought 
of, as theirs. But this justification of an old land tax is re- 
versed into a ground of condemnation for a new land tax 
since, as already explained (Sections 274 and 275), a new or 
higher tax on land, which has not appreciated in value, not 
only deducts the amount of the tax from the income of the 
landowner but causes his land to depreciate by the amount 
of the tax capitalized at the current rate of interest. It thus 
involves a virtual confiscation of a part of his property. If 
the problem were to be decided merely from the point of view 
of present justice in taxation we should have to say that no 
tax is more fair than an old land tax and none more unfair 
or discriminating than a new land tax. But the problem is 
too important to be decided finally as a mere question of 
adjusting tax burdens. It involves the whole question of 
the justification of the unrestricted private ownership, and 
private enjoyment, of land. It is this aspect that is made 
prominent in the program of the so-called " single taxers " 
and before attempting to decide as to the merits of their pro- 
posal we must consider carefully the arguments that may 
be urged for and against the institution of private property 
in land. 



PRIVATE PROPERTY IN LAND 525 

§ 304. Private property in land was adopted, in the United Historical 
Kingdom, as has been shown (Section 6), after centuries of Reasons 
experience of the communal or joint ownership of the manorial °^ ^^' 
system. In that country, as on the continent of Europe, this ^^.^ ^^^ 
communal ownership was found to be deadening to enterprise Land in 
and progress because it compelled the adoption of uniform Europe, 
methods of cultivation by the members of each rural com- 
munity and because it offered no adequate incentive to those 
large plans of improvement, such as the draining of marshes 
and the introduction of artificial fertilizers, to which English 
agriculture was later to owe so much. It is true that the 
system has had its dark side in that the transition to it 
afforded an opportunity for much fraud and injustice, and in 
that it has resulted in the formation of great hereditary es- 
tates owned by absentee landlords. Even with these draw- 
backs, however, it is believed that the introduction of private 
property in land has resulted in national gain, and if measures 
had been taken, as they might easily have been, to prevent 
these evil results, the beneficence of the change would hardly 
admit of question. 

Even without the precedents established by European In the 
countries, it is highly probable that the early settlers of United 
America would have adopted private property in land as ^*^*^^- 
the only system adapted to the conditions of a new country. 
To attract colonists it was necessary to offer them every in- 
ducement. Guaranteeing them in the ownership of such land 
as they were able to reclaim from the wilderness and defend 
from the Indians seemed a small enough return for the hard- 
ships and privations which they were required to endure. Of 
course, land was also secured at times on terms that had 
little regard to the general interest, but, on the whole, the 
results of the system have abundantly justified it. The liberal 
land policy which the country has pursued from the earliest 
period has been a chief factor in the rapid settlement of the 
American continent. Unwise as it has undoubtedly been in 
some of its details, it can hardly be questioned that it has been, 
in its main features, sound and beneficent. 

§ 305. An historical justification of private property in 
land is quite a different thing from a demonstration that the 



526 REFORM TAX SYSTEM OF UNITED STATES 



The 

Present 
Land 
Problem 



system must endure until the end of time. At some period 
it is quite certain that this system, like others that preceded 
it, will cease to be adapted to industrial conditions and will 
need to be modified, if the best interests of society are still 
to be served. We have now to weigh the truth of the claim 
of advocates of land nationalization that this period has al- 
ready come for the countries of the Western World. 

The principal advantages of private property in land are 
realized only when the owner is at the same time the occupier 
or cultivator. Under these conditions self-interest insures in 
most cases the most economical and progressive utilization of 
the land attainable. When, on the other hand, the owner 
is an absentee landlord, who leases the land to the occupier 
or cultivator, it can make little difference whether he is the 
administrator of a private estate or an official of a well-or- 
ganized government. In either case the actual use made of 
the land must depend upon the terms of the lease and the 
efficiency of the lessor. It follows that the suitability of the 
present system of private property in land to present condi- 
tions hinges largely upon the question whether absentee land- 
lordism both in town and country is coming to be the rule or 
whether this condition is still exceptional. 

Space will not permit an exhaustive analysis of the actual 
of Absentee situation even in the United States, but a few facts may be 

• ^° • °L" mentioned as proof that in this country, at least as regards 

ism in the • i i , i 

United agricultural land, absentee landlordism is still exceptional 

and occupation and cultivation by the owner the rule. Thus, 

according to the census of 1890, 72 per cent of the 4,565,000 

separate farms in the country in that year were operated 

by their o\yners. The percentage had decreased to 62 in 

1910, but owing chiefly to an extension in the Southern States 

of the system of cultivation ' ' on shares, ' ' which has the one 

advantage that it insures the owner's continued interest in 

the methods of cultivation practised by the tenant. 

In towns and cities the situation is far less favorable to 

the present system of private property in land than in the 

country. Moreover there is reason to think that, especially 

m large cities, absentee landlordism is becoming more and 

more the rule, for the simple reason that more and more 



Extent 



States. 



"PROGRESS AND POVERTY" 527 

people are coming to live in tenement and apartment houses.* 
If this is the case, there may be good ground for the conten- 
tion that the system of private property in land is ceasing 
to serve any useful purpose in cities which the system of 
public owTiership would not serve as well and that the time 
is ripe for a gradual transition to the latter. 

§ 306. The plan for diverting the income w^e have styled George's 
rent from private landowners to the government that has "Progress 

attracted most attention in the United States, " the single .„ ^ „ 

Poverty, 
tax," was first proposed by Mr. Henry George, in his widely 

read book, Progress and Poverty. Mr. George's avowed pur- 
pose in writing Progress and Poverty was "to seek the law 
which associates poverty with progress and increases want 
with advancing wealth," and in it he attempts to prove that 
this law results from the institution of private property in 
land, which, he believes, causes the benefits of progress to re- 
dound to the exclusive advantage of landowners. Diverting 
these benefits to the whole community by means of a " single 
tax " on land rent would, he thinks, " raise wages, increase 
the earnings of capital, extirpate pauperism, abolish poverty, 
give remunerative employment to whoever wishes it, afford 
free scope to human powers, lessen crimes, elevate morals and 
taste and intelligence, purify government, and carry eiviliza- 
tion to yet nobler heights." The argument by which he ar- 
rives at this gratifying conclusion is too elaborate to repro- 
duce in brief compass, and this is the less necessary because 
there is no evidence of the truth of the law for which he 
seeks an explanation and whose existence is vital to his whole 
contention. Poverty has undoubtedly persisted in spite of 
progress, but that it has increased with progress is directly 
contrary to the fact. Equally unwarranted is the assumption 
on which his conclusion rests that every improvement in pro- 
ductive power tends to increase rents. This could only be 
the case if the population of each country had an absolutely 
rigid standard of living and responded to every improvement 
by multiplying until the margin of cultivation was lowered 
to a point at which wages were no higher than before. If 

* Already in New York City but one family in nine owns its place 
of residence. 



528 REFORM TAX SYSTEM OF UNITED STATES 



Objections 
to the 
Single 
Tax. 



It Would 
Involve 
Confisca- 
tion. 



such were the fact, no real progress for the mass of the people 
would be possible under any industrial system. 

Henry George's extreme claims, both as to the need for a 
radical remedy for present economic evils and as to the bene- 
fits that would result from his " single tax," were extrava- 
gant and unwarranted, but his proposal ought not to be dis- 
missed on these merely negative grounds. The influence 
which Progress and Poverty has exerted over its hundreds 
of thousands of readers has been due, not to the novelty or 
profundity of its argument, but to the sincere desire to bene- 
fit humanity which so clearly inspired the author in its com- 
position. The plan suggested should be considered in no 
meaner spirit, that is, with sole reference to its social utility. 

§ 307. Among the objections that may be urged against 
the single tax three merit particular attention : any single 
tax is undesirable ; it would involve the wholesale confiscation 
of property ; in practice it could be carried out only in such 
a crude and approximate way that it would lose many of the 
merits claimed for it. The first objection would be unimpor- 
tant did it not serve to show the extent to which belief in 
the single tax rests upon faith rather than upon reason. 
Henry George appears to have thought that there was a 
divinely ordained relation between the legitimate needs of 
government and the size of the rent fund, and that the last 
would always suffice to cover the first. This view overlooks 
the fact that the two are controlled by very different consid- 
erations. Of two cities of the same size and with the same 
aggregate rent roll, one might legitimately spend two or 
three times as much for public purposes as the other, if its 
citizens had developed to that degree superior appreciation 
of the importance of common needs. Even if admirable in 
all other respects, neither a rent-tax nor any other tax would 
be desirable as the single tax. 

The next objection is more fundamental and applies to 
all plans involving the sudden diversion of land or the in- 
come it affords to the common benefit. Such policies amount 
to confiscation and can only be justified on the ground that 
they are essential to general well-being. For centuries the 
law has permitted the private ownership mi enjoyment of 



REFORM OF LAND SYSTEM 529 

land. Pieces of land have changed hands on the average 
dozens of times in the United States, and present owners have 
in most cases acquired them not as free gifts of nature nor 
as grants from the government, but by paying for them, just 
as they h xve had to pay for other species of property. To 
deprive them without compensation of their lands, or what 
amounts to the same thing, of the income which these lands 
afford, would be to commit a monstrous piece of injustice. 
Such injustice might possibly be countenanced if there were 
any rational grounds for sharing Henry George 's expectations 
as to the results of such a policy, but in the absence of such 
grounds it must be condemned in unqualified terms. A state 
which would thus overturn an established institution, and 
confiscate by wholesale the property of its citizens, would lose 
the confidence of those citizens and be reduced to a condition 
of anarchy. Any increase in public revenue or reduction in 
other forms of taxation so secured would be bought at far 
too high a price. 

The third and last objection to the single tax is adminis- Difficult 
trative in character. Although the rent of land may be dis- to -^d- 
tinguished in thought from interest on capital invested in ™i"-ister. 
the land, it is often impossible to distinguish it in practice. 
As already pointed out, permanent improvements to land, 
such as draining marshes, or filling in hollow places or level- 
ing down elevations to adapt lots for building purposes, be- 
come indistinguishable from the land itself. For the govern- 
ment to appropriate the entire income from improved land 
would be for it to place a ban upon further improvements. 
For it to appropriate only the true economic rent would, 
in many cases, be impossible, as there is no means of calculat- 
ing exactly the amount of that rent. Thus the carrying out 
of the single-tax program is confronted by serious practical 
difficulties. 

§ 308. Disapproval of the single tax by no means implies Desirable 
complete satisfaction with the present land system. At sev- Reforms 
eral points that system calls for reform, and all the more "^ ® 
urgently because in connection with land ownership and taxa- gygtem 
tion to postpone changes is to render them more difficult of of Land 
accomplishment. It will be possible in these pages merely Ownership. 



530 REFORM TAX SYSTEM OF UNITED STATES 

to indicate in outline the reforms which, in the opinion of the 
author, would be especially desirable in the United States. 

As regards the Federal Government, the changes in policy 
that are called for have in view the more careful conserva- 
tion and more economical utilization of the public domain. 
Vast tracts should be set aside as forest reserves. Other vast 
tracts, suitable only for cattle and sheep ranges, should be 
leased on terms that will insure their conservation and at 
the same time afford a revenue to the government. Still 
other public lands, valuable for the mineral weal'th which 
they contain, instead of, as at present, being sold for much less 
than their prospective, or even actual, value, should also be 
leased on terms sufficiently liberal to encourage the prospector 
and the mine investor, and yet calculated to secure for the 
public treasury a proper share of these stores of natural 
wealth, which up to the present time have served almost ex- 
clusively to swell the fortunes of private individuals. Fi- 
nally, the policy embodied in the Homestead Act of practi- 
cally giving a farm of 160 acres to every bona fide home- 
seeker who will cultivate it, should be amended to conform 
to present conditions. On the one hand, provision should 
be made by which the government would receive a more ade- 
quate return for the superior tracts of agricultural land with- 
drawn from time to time from the Indian reservations and 
thrown open to settlement. On the other, government lands 
benefited by the large irrigation projects that are carried 
through with public funds should be sold on terms that would 
enable the government to get at least a partial return for 
its investment. Experiments should also be made with dif- 
ferent forms of leasehold tenure even in connection with 
agricultural land, to test by actual experiment the truth of 
the proposition that no other form of control is as favorable 
to the best utilization of farm land as outright ownership on 
the part of the cultivator. 

^^^* ^° ^^^ Federal Government the political units most 
rn"citks. ^^^f^'ested in the land problem are the cities of the country. 
This is because, first, modern cities themselves require a con- 
stantly increasing proportion of the land within their limits 
for parks, schools, playgrounds and other public purposes; 



The 
Problem 



LAND PROBLEM IN CITIES 531 

second, in cities the public interest demands a larger degree 
of public control over the uses to which landowners may put 
their property than is necessary in the open country, and 
third, a principal source of city revenue is the tax on real 
estate. Each one of these reasons suggests a line of develop- 
ment which the future land policies of American cities should 
follow. Cities must become landowners on a greater and They 
greater scale if the best interests of their citizens are to be Must Ac- 
cared for. Not only are the public purposes referred to, i^i^^e 
parks, schools, playgrounds, etc., expansive, calling for more ^°^^ 
and more space for their realization as higher standards are 
developed, but there are other purposes little less important 
that require the city to acquire land. Undesirable tenement- 
house properties must be condemned and clean and whole- 
some tenements substituted. Sometimes the best method of 
effecting this change is for the city to buy the land and itself 
control the new improvements to be erected upon it. What 
this may in time lead to is indicated by the situation in some 
German cities where a considerable proportion of the land 
within the city belongs to the municipality and is so well ad- 
ministered that no one is in favor of returning to the older 
system of larger private land ownership. The administration 
of few American cities is so efficient as to make development 
along this line immediately desirable, but no one familiar with 
what is going on in other countries can doubt that as efforts 
for municipal reform bear fruit in better government, the 
cities of the United States will also become landlords on a 
larger and larger scale. 

The necessity for rigid control over the uses to which land Rigid 
in cities is put is obvious. Not only must uses which will be Regulation 
offensive to the neighborhood be prohibited and building ma- •Necessary, 
terials that will not readily catch fire insisted upon, but the 
height and proportionate lot area of buildings must be pre- 
scribed, the location of factories regulated and, in general, 
the public interest protected at all points where it would be 
sacrificed if free play were given to the selfish private inter- 
ests of landowners. 

The last line of development calls for an increase in the 
burden of municipal taxation that shall fall upon the land. 



532 REFORM TAX SYSTEM OF UNITED STATES 



Larger 
Share of 
Tax Bur- 
den Should 
Pall on 
Land. 



Conclusion. 



Special 

Franchise 

Taxes. 



As advocates of the single tax point out there are several 
reasons why a tax on the land within its limits is a pecu- 
liarly suitable source of revenue for a developing city. First, 
it is a tax which falls, where it is intended to fall, on the land- 
owner, who can neither shift it nor evade it. Second, not- 
withstanding the fact that landowners must pay it, an old 
land tax after a time ceases to impose upon them a burden 
of which they are conscious. This, as already explained, is 
because it is the net rent, that is, the gross rent less taxes 
and other necessary deductions, that is considered when land 
is valued. When a piece of land changes hands the price 
paid makes full allowance for the taxes that are regularly 
imposed. The land is bought subject to taxation and the 
new owner thinks not of the gross rent but only of the net 
rent as the income to which he is fairly entitled. Third, the 
increase in the rents and prices which city lots command 
as compared with open fields, is due chiefly to the growth 
of the city and to improvements for which the city has paid. 
It, therefore, seems but just that a large part of the income 
received from city lots should go to the city treasury. On 
these grounds and others of a more technical character a 
gradual increase in the proportion of municipal taxation that 
falls on land, as distinguished from improvements and differ- 
ent forms of personal property, is much to be desired. 

The above proposals do not exhaust the land question but 
they serve at least to indicate some of the ways in which the 
land policies of the Federal Government and of American cities 
may be modified so as to adapt the country's land system 
to the economic and political conditions of the twentieth cen- 
tury. As these conditions change further modifications will 
be desirable until at length the ideal that land and natural 
resources, as gifts of nature to man, shall be used primarily 
for the advantage of the whole community, may be completely 
realized. 

§ 309. In addition to buildings and land, the special fran- 
chises or monopoly earnings of public service corporations 
are a proper object of local taxation and the plan adopted 
by New York State of defining such special franchises as 
real estate, for purposes of taxation, has already been advo- 



MUNICIPAL TAXES 533 

cated. No locality is warranted, however, in expecting to 
derive more than moderate returns from the taxation of spe- 
cial franchises. That such franchises have value at all indi- 
cates that the corporations enjoying them are taking advan- 
tage of their monopoly position to charge more for the indis- 
pensable services that they render than these services cost. 
It is the duty of the government, instead of permitting the 
value of special franchises to increase, to insist on lower 
charges even at the sacrifice of revenue to itself. Cheap water, 
cheap gas and electricity, and cheap transportation facilities 
are quite as important to the welfare of the people as the 
services which the municipality itself renders. It would be 
robbing Peter only partly to pay Paul to allow the value of 
special franchises to appreciate for the sake of the small pro- 
portion of the increased monopoly income that might be di- 
verted by taxation to the general use. Even if the govern- 
ment received all of the increase in earnings it would still be 
doubtful policy to permit needlessly high charges to continue 
in force. 

A fourth source of municipal revenue is from license taxes License 
justified on grounds explained in a previous section (Section Taxes. 
302). Already it is customary in several states to share the 
proceeds of liquor license taxes with the local governments 
within whose jurisdiction the licenses are held. There is 
every reason why this policy should be made general if the 
high license system should be extended as has been advocated. 
It would then prove an important municipal as well as state 
resource. 

These four taxes supplemented by the other sources of local 
revenues described in the last chapter would, it is believed, 
fully meet the legitimate requirements of local governments 
in the United States. 

§ 310. In comparison with the taxes now in force in the Compari- 

United States the system of taxation which would result if ^°^ °^ ^^°" 
, , , ,1 J J. J posed with 

the various changes that have been suggested were adopted pj.gggj^^ 

would have at least the advantage of simplicity. No tax has system. 

been approved that could not be easily and accurately assessed 

and collected. On the other hand, large use would be made 

of what we have called " burdenless " taxes. When the busi- 



534 REFORM TAX SYSTEM OF UNITED STATES 

ness community was thoroughly adjusted to the system it is 
believed that not only the land and special franchise taxes 
but also the inheritance and license taxes would impose but 
little real burden upon those who paid them. As one final 
merit it may be claimed that in assigning an important role 
to license taxes the system would serve to foster economical 
production rather than to stifle enterprise as business taxes 
are only too apt to do. 
Conclusion. The proposed changes will seem quite inadequate to advo- 
cates of the single tax or other radical plans of reform. Such 
persons view the taxing power as the agency by means of 
which economic and social injustices can be redressed and 
have little patience with the assumptions, on which our dis- 
cussion has proceeded, that vested interests are to be respected 
and that what is to be chiefly aimed at is a fair distribution 
of the burdens of taxation, not a fairer redistribution of pri- 
vate property. Much as the author both wishes and hopes to 
see a more equal distribution of property than now prevails, 
he cannot persuade himself that good can result from using 
the machinery of taxation to confiscate particular forms of 
property which the law has in the past protected. As time 
goes on it will doubtless be desirable gradually to extend the 
domain of public property and in so doing to encroach upon 
the field of private ownership. This may be accomplished 
either by an exercise of the right of eminent domain under 
which property required for a public purpose may be con- 
demned, adequate compensation being paid to the previous 
owner for the loss which he suffers, or by asserting the right 
of the state to the exclusive use of certain forms of property 
or to the exclusive pursuit of certain industries. To attempt 
to accomplish it, however, by seizing without compensation 
one after another of the forms of property that it is desired 
to withdraw from private ownership, even if this be done 
under the guise of taxation, is to substitute spoliation and 
confiscation for law and justice. The mistakes of the past 
in permitting the undue extension of the field of private 
property should not be corrected by injustice in the present. 
What is rather to be insisted upon is that the lessons of the 
past shall be taken to heart by those charged with the ad- 



REFERENCES 5^5 

ministration of public affairs so that similar mistakes shall 
not be repeated. 

REFERENCES FOR COLLATERAL READING 

* Adams, Science of Finance; *Seligman, Essays in Taxation and The 
Income Tax; *Patten, A Rational System of Taxation; * George, Progress 
and Poverty; S^eorwan, Natural Taxation; Fillebrown, A.B.C. of Tax- 
ation. 



CHAPTER XXIX 



THE LABOR MOVEMENT 



Practical 
Application 
of Theory 
of Wages. 



Disadvan- 
tages of 
Wage- 
earners 
in Bar- 
gaining. 



§ 311. The treatment of wages in the chapters on distribu- 
tion was open to the charge of being unduly abstract. The 
assumption that competition has free play among workmen 
and employers involves a disregard of palpable facts and 
must, for many readers, have weakened the force of the con- 
clusions that under such circumstances workmen of the same 
grades of capacity competing in the same labor market tend 
to secure the same rates of wages and that in general these 
rates tend to be the shares of the joint product that are eco- 
nomically imputable to labor as distinguished from the other 
factors of production. These conclusions were presented, it 
cannot be too strongly emphasized, not as descriptive of actual 
conditions, but rather as tendencies, to be considered in con- 
nection with actual conditions. Full weight must now be given 
to the undoubted truth that competition in the labor markets 
of the world is not free and all-sided, as assumed, but ob- 
structed in various ways, and the extent to which we should 
modify our conclusions in reference to the relation between 
work and pay to make them true to the facts must receive 
careful consideration. 

The wages contract is a bargain, and when it fails to secure 
for labor its full competitive share of the product the cause 
must be sought in the unequal bargaining ability of workmen 
and their employers. The principal disadvantages under 
which workmen are placed are: First, that their labor re- 
sembles a perishable commodity in that it must be sold each 
day if they are not to incur loss. This circumstance often 
forces them to accept wages that are below their normal earn- 
ing capacity and nearly always makes them more impatient 
to have the bargain concluded than their employers, who 
may, to be sure, be losing profits but are rarely haunted by 

536 



DISADVANTAGES OF WAGE-EARNERS 537 

the spectre of outright destitution. For workmen tramping 
the streets in search of employment this ground of inequality 
can hardly be exaggerated. It must be remembered, however, 
that the typical workman in normal times is not the unem- 
ployed seeker after a job, whose unfortunate plight is so often 
pictured, but the man already employed, who is trying to 
better himself. Unemployment often forces workmen to make 
bad bargains, but even bad bargains may place them in a 
position to make better terms with their next employers. It 
must be remembered on the other hand, however, that unem- 
ployment may and often does continue so long as to break 
the spirit and lessen the efficiency of the workman and thus 
to cause a permanent lowering of his earning capacity. A 
second disadvantage results from the superior knowledge 
which employers usually have of the conditions which influ- 
ence the wage contract. More intelligent, as a rule, and able 
from their position to take a broader survey of the labor mar- 
ket, employers can often persuade workmen to accept terms 
much worse than free, all-sided competition would secure for- 
them. A third disadvantage results from the actual or tacit 
understandings which often restrain employers from compet- 
ing freely for employees by advancing wages. There is a 
strong reluctance on the part of employers to ' ' spoil the labor 
market," and even when they are not combined in employers' 
associations, as is now so often the case, this serves to make 
them conservative in reference to wages. 

The tendencj^ of the above disadvantages is to render work- Counter- 
men inferior to employers as bargainers and to cause them considera- 
to accept less than their fair share of the products they help 
to produce. This, it must be clearly understood, is also only 
a tendency. Any disparity between current rates of wages 
and the value of the product which labor is able to produce 
affords an inducement to employers to secure more hands. 
Ordinarily this motive is strong enough to overcome the re- 
luctance which employers feel to bidding up wages, and or- 
dinarily competition among them is sufficiently active to main- 
tain wages even when the ignorance and inertia of individual 
workmen might lead them to accept less than market condi- 
tions call for. Only in cases in which the isolated workman, 



538 



THE LABOR MOVEMENT 



An Illustra' 
tion. 



Labor 
Organiza- 
tions in 
the United 
States. 



who is temporarily out of employment, bargains with the un- 
scrupulous employer is full advantage likely to be taken of 
the wage-earner's weakness. In the usual situation the in- 
equality in bargaining power between employer and employee 
is at least partly offset by competition among employers to 
secure workers or by organization among the workers them- 
selves. 

The force and reality of the competition among employers 
for workmen are proved in every period of active prosperity 
in the United States. As I write (August, 1912) the iron and 
steel industry of the country is in a highly active condition. 
The scarcity of workers in the Pittsburg district is so great 
that not only are higher wages being offered but employing 
agents are even paying the fines of workmen who happen 
to be in prison for minor offenses to secure their release and 
their return to the mills in which they were employed. The 
indications are that this activity will continue for some time 
and in that event a substantial increase in wages is certain 
to occur, notwithstanding the almost complete absence of labor 
organizations among the workmen affected. The increase 
would, however, come with even greater certainty if the steel 
workers were organized. 

§ 312. The purpose of labor organizations, or trade unions, 
is, in general terms, to advance the interests of the workmen 
who form them. To accomplish this they choose officers 
(usually a president, vice-president, secretary, treasurer and 
members of a standing council or executive committee), accu- 
mulate funds, administer mutual insurance or benefit fea- 
tures, bargain with employers in reference to wages, hours 
and other conditions of employment, organize and carry 
through strikes and boycotts, collect and disseminate infor- 
mation in reference to labor conditions and agitate for legis- 
lation designed to promote the interests of labor. Beginning 
as local organizations, trade unions have now progressed in 
the United Kingdom and the United States until they include 
federations of unions of various kinds and designed to serve 
various purposes. In all well-organized trades the local 
branches are combined or " amalgamated " into national or- 
ganizations. In cities, local unions are usually organized fur- 



LABOR ORGANIZATIONS 539 

ther into " trade councils," or " united labor leagues." Re- 
lated trades, as, for example, the building trades, are fre- 
quently federated also in each locality into organizations like 
the " united building trades councils," designed to assist 
individual unions to accomplish their purposes when those 
are not deemed at variance with the interests of the whole 
body. Finally, in the United States nearly all of the im- 
portant organizations, both local and national, except the 
railroad brotherhoods, are members of the American Federa- 
tion of Labor, which stands for the general interests of or- 
ganized labor. 

Exact statistics of the membership of American labor or- Present 
ganizations are not available, but it is certainly within the Strength 
truth to say that over 15 per cent of the 10,000,000 odd men of l-abor 

returned by the census of 1900 as employed in trade, trans- ^^^^^' 

zatious. 
portation and manufacturing and mechanical pursuits were 

members of unions. Of these nearly 1,000,000 were associated 
with the American Federation of Labor. A careful estimate 
places the number of paid-up members of trade unions in the 
United States on January 1, 1912, at 2,162,926, of whom 1,761,- 
835 were credited to the American Federation of Labor. 
The membership of the British trade unions is relatively 
larger, being returned as 3,010,346, on January 1, 1912. This 
is due partly to the fact that labor is there more fully organ- 
ized and partly to the greater preponderance of wage-earners 
in the population. 

§ 313. The development of trade unions to their present History of 
position of power and influence in the United Kingdom and British 
the United States constitutes an interesting history. In the 
United Kingdom at the beginning of the nineteenth century ^^ q^_ 
labor organizations were criminal conspiracies under both ganizations, 
common and statute law. The statutes expressly prohibiting 
them were repealed in 1824-25, but it was not until the early 
seventies that they acquired an assured legal position. It was 
long believed that under the Trade Union Acts then passed 
(1871 and 1876) they were not liable to suits for damages 
for the tortious acts of their officers or members. This view 
was declared erroneous by the highest British court in the 
famous Taff Vale decision (1901), in consequence of which 



540 THE LABOR MOVEMENT 

damages and costs to the extent of nearly $250,000 were 
assessed against one of the railroad brotherhoods. This de- 
cision led to active efforts on the part of trade unionists to 
have labor organizations expressly exempted by act of Parlia- 
ment from liability to suits for damages. In the general elec- 
tion of 1906 as many as fifty-seven labor representatives were 
returned to Parliament and, largely as a result of their agita- 
tion, a Trades Disputes Act was passed in the same year 
which relieved organizations of both employers and employees 
from liability to suits for damages for acts committed in con- 
nection with trade disputes. As the Conspiracy and Protec- 
tion of Property Act of 1875 had already declared that no act 
in connection with a trade dispute which was not criminal 
if committed by an individual should be actionable as a con- 
spiracy because committed by two or more persons acting in 
combination, trade unions now enjoy a higher degree of free- 
dom from legal restraint in the United Kingdom than in any 
other country. 
The Law § 3i4_ The development of labor organizations in the United 

States has not been checked to any appreciable extent by legal 
restrictions. Strikes for the purpose of advancing wages or 
shortening hours have rarely been held to be illegal, and in 
many of the states they are expressly authorized by statute. 
In fact, the attitude of state legislatures has been uniformly 
favorable to labor organizations, some of them even going to 
the length of prohibiting employers from discharging em- 
ployees on the ground that they are members of such bodies. 
Strikes for other purposes, as, for example, to compel an 
employer to reinstate a discharged employee or to discharge 
an employee who is not a member of the union, have some- 
times been condemned as conspiracies. The opposition of the 
courts in such cases has been based not on hostility to labor 
organizations as such, but on a desire to uphold the rights 
of persons who are not members of them. Thus the Court 
of Appeals of New York State, in branding as a conspiracy 
the effort of a union to secure the discharge of a non-union 
man, used the following language: " Public policy and the 
interests of society favor the utmost freedom in the citizen 
to pursue his lawful trade or calling, and if the purpose of 



in the 
United 
States. 



THEIR LEGAL STATUS 541 

an organization or combination of workingmen be to hamper 
or restrict that freedom, and through contracts or arrange- 
ments with employers to coerce other workingmen to become 
members of the organization and to come under its rules and 
conditions, under the penalty of loss of their position and 
of deprivation of employment, then that purpose seems clearly 
unlawful and militates against the spirit of our government 
and the nature of its institutions." This decision is cited 
because a few years later the same court, looking at the same 
question more from the point of view of trade unions, decided 
that a strike for a similar purpose was lawful, on the ground 
that the object sought was not the injury of the non-union 
employee, but the preservation of the union.* This virtual 
reversal of opinion illustrates fairly well the difficulties which 
American courts encounter in their efforts to apply the com- 
mon law of conspiracy to labor cases and explains why they 
arrive at such <Jiverse conclusions as are shown by the authori- 
tative decisions of the courts of the different states. It v^^ould 
be a great gain if the whole question of the nature of con- 
spiracy in connection with trade disputes could be clearly de- 
fined by statute in the United States as it has been in the 
United Kingdom. 

Until quite recently the view that unincorporated labor Organiza- 
organizations were not liable to be sued for damages was tionsNow 

held in the United States as in the United Kingdom, but ^^ 

Damage 

the English decision cited has already been quoted with ap- g^j^g^ 
proval by American courts, and several cases are now on 
record in which labor organizations as such have been sued 
and verdicts against them awarded. "Whether these verdicts 
will lead to successful agitation by trade unionists to have 
the American law altered as the British law has been by the 
new Trades Disputes Act remains to be seen. It seems very 
clear to the writer, however, that labor organizations, like 
other combinations, should be subject to some sort of legal 
control. If relieved from financial responsibility — and much 
is to be said in favor of this plan— they should be made sub- 

* These decisions are: Curran v. Gallen, 152 N. Y. 33 (1897), and 
National Protective Association v. Cumniings, 170 N. Y. 315 (1902). 



542 



THE LABOR MOVEMENT 



Collective 

Uargain- 

iiiff. 



Objections 
of Em- 
ployers. 



ject to administrative supervision and regulation as proposed 
in a later section (Section 317). 

§ 315. Intelligent unionists rely chiefly upon collective, as 
distinguished from individual, bargaining to secure the ad- 
vances in wages and the shortening of hours for which they 
are always striving. Eecognizing the weakness in bargaining 
power of the isolated workman, they advocate trade unions 
as a means of restraining reckless competition for employment 
and of securing for all concerned standard rates of wages 
which shall equal approximately what each given grade of 
labor is worth to employers. Where employers accept the 
plan, wage scales are agreed upon by conference between their 
representatives and representatives of the union, to remain 
in force usually for a year, and the principal task of union 
officials during the intervals between bargaining periods is 
to maintain the integrity of their unions, add to their mem- 
bership if possible and see that agreements in reference to 
wages and hours are lived up to. In the United States this 
stage of development has been reached in only a few trades. 
In most of them employers still insist upon the older method 
of fixing wages and the unions are forced to carry on a strug- 
gle for their very existence. 

The objections which employers make to collective bargain- 
ing are various. Many of them insist that they must be per- 
mitted to manage their businesses in their own way and that, 
while they are always ready to treat with their own em- 
ployees, they will have nothing to do with '' walking dele- 
gates " or other trade-union officials who " try to run their 
businesses for them." The trade-union reply to this conten- 
tion is that wages and hours are as much the business of the 
employee as of the employer, and that if workmen prefer 
to leave their side of the negotiations which determine them 
to trained representatives they have as good a right to do 
so as have employers to hire special employing bosses to treat 
with the men they hire. Other objections are that the de- 
mands of trade-union officials become more and more unrea- 
sonable with every concession that is made to them, and that 
even after a collective bargain has been struck the employer 
has no guarantee that it will be adhered to by his employees. 



CONCLUSION 543 

who may repudiate their own representatives. Unionists re- 
ply that while there are doubtless all kinds of officials among 
trade unions, as among other associations, the acceptance by 
employers of the principle of collective bargaining is a sure 
way of bringing to the front labor leaders of a conciliatory and 
pacific disposition. They point to the undoubted fact that 
in those trades where collective bargaining has been longest 
practised there is the least dissatisfaction with it on the part 
of employers. The likelihood that collective bargains, for- 
mally entered into, will not be adhered to by employees is, 
in the opinion of the unionists, much more remote than em- 
ployers represent. Only in cases in which the system is backed 
by a weak union, or so recently adopted as not to be under- 
stood by the workmen concerned, is this a real danger. Fi- 
nally, employers object to the standard wage on the ground 
that it is a device for securing a given rate of pay irrespective 
of the amount or quality of the work done. They complain 
that as soon as a standard wage is agreed upon employees be- 
gin to devise means of scamping their work, partly to spare 
themselves effort and partly in the belief that by doing less 
work themselves they will provide employment for others, who 
must, without it, either be idle or work for less than the stand- 
ard wages. This is, doubtless, the most serious objection to 
the standard wage, but trade unionists have much to urge 
on the other side. They insist, first, that the objection can 
apply only to time wages and that, as a matter of fact, piece 
wages are often the object of collective bargaining; second, 
that the standard wage is only a minimum wage and that 
there is nothing to prevent the employer from declining to 
hire men whose work is not worth so much to him, nor from 
paying higher wages to men whose work is worth more ; 
finally, that under the competitive wage system employers 
tend to drive their men so hard that they become prematurely 
old, and that employees are, therefore, justified in using the 
power that association gives them to moderate somewhat the 
intensity of their daily efforts. 

It is very difficult to strike a balance between these oppos- Conclusion, 
ing arguments. There is, undoubtedly, a widespread notion 
among workmen that there is a certain amount of work to 



544 



THE LABOR MOVEMENT 



Strikes 

and 

lockouts. 



be done in the world and that unemployment is due to the 
fact that this work will not go around so long as those em- 
ployed continue to labor with the same intensit}'. It is hardly 
necessaiy at this stage to insist that this view that men may 
make work for others by doing less themselves is entirelj^ 
fallacious. The amount of work that is to be done depends 
upon the demand there is for goods of different kinds, and 
this demand comes itself from goods. Thus, if in every de- 
partment of industry the productiveness of labor should be 
reduced by ten per cent the demand for labor would necessarily 
decrease in somewhat the same proportion. The same conclu- 
sion may be inferred from the theory of wages that has been 
explained. Under freely competitive conditions they are 
the equivalent of what labor produces, and if workmen de- 
liberately reduce their productiveness their wages must be 
reduced proportionately. There is no fund other than what 
workmen produce out of which wages can or will for any 
length of time be paid. The make-work argument for curtail- 
ing the output of each man's toil is thus T^ithout foundation, 
and the policy can only react to the disadvantage of the whole 
wage-earning class. On the other hand, there is undoubted 
truth in the assertion that employers often desire workmen 
to labor with an intensitj^ that wears them out in a few years, 
and that their best interests and the interests of society de- 
mand that they should work with more moderation. When 
this is the real purpose of trade unions in curtailing the out- 
put of each man's labor, the policy is justified, even though 
it may involve in the long run a proportional lessening of 
wages. Smaller daily earnings spread out over a greater num- 
ber of active and efficient working years are better from every 
point of view than higher wages secured at the cost of health 
and vitality. 

§ 316. When employers decline to enter into collective bar- 
gains, or when the representatives of a trade union cannot 
come to terms with the representatives of an employer, a strike 
or lockout is apt to be the result. The strike is a general ces- 
sation of work on the initative of the workmen; the lockout 
a similar stoppage brought about by employers. Strikes and 
lockouts seem at first thought the logical accompaniments of 



COAL STRIKE OF 1905 5i5 

colleetive bargaining. When a single workman cannot secure 
the wages or hours he thinks he ought to have he declines 
to accept emplornient. Similarly, an employer refuses to em- 
ploy on terms that are not agreeable to him. Strikes and 
lockouts appear to be the same phenomena transferred to 
the larger stage of collective bargaining. There is. however, 
a vital difference in the two cases. THien a workman de- 
clines employment or an employer refuses to employ, it is 
usually with the expectation of making better terms with some 
one else. This alternative is not usually presented in the case 
of strikes and lockouts. The cessation of work which they 
cause is often complete until one side or the other gives in, 
when work is resumed by substantially the same men under 
the same employer. Strikes and lockouts thus mean, while 
they last, idleness and loss of earnings, with all of their de- 
moralizing consequences, for workmen; idle capital, deprecia- 
tion of plant and loss of business for employers, and curtailed 
production of goods and resulting loss in want gratification 
for the community. Even if they are not accompanied, as is 
so frequently the case, by acts of violence and lawlessness, 
they are the cause of loss and waste on a scale that makes 
them a serious obstacle to prosperity. A significant illustra- 
tion of the costliness of strikes was afforded by the Eeport 
of the Commission on the Anthracite Coal Strike of 1902. 
This estimated that this one strike, which lasted from May 
until October, involved a loss in receipts to the coal-mining 
companies of $46,100,000. of which some $25,000,000 would 
have been paid out in wages had work been continued, and 
a loss in freights to the coal-carrying railroads of $28,000,000. 
The inconvenience and actual suffering to which the public 
was put by the resulting shortage in coal cannot be measured 
in money, but it was certainly as serious as the other losses 
combined. 

The anthracite-coal strike illustrated also the evils of vio- Anthraeite- 

lence and lawlessness which frequently accompany strikes. ^°^^ 

strike 
In the language of the Commission referred to : '" Its bistort' ^^ ^^^^ 

[was] stained with a record of riot and bloodshed, culminat- 
ing in three murders, unprovoked save by the fact that two 
of the victims were asserting their right to work, and another, 



54/6 



THE LABOR MOVEMENT 



Reasons 
for Vio- 
lence, In- 
timidation 
and Boy- 
cotting. 



Plans for 
Avoiding 
Strikes : 



as an officer of the law, was performing his duty, in attempt- 
ing to preserve the peace. Men who chose to be employed, 
or who remained at work, were assailed and threatened, and 
they and their families terrorized and intimidated. In several 
instances the houses of such workmen were dynamited, or 
otherwise assaulted, and the lives of unoffending women and 
children put in jeopardy." Nor were violence and intimida- 
tion the only means resorted to by the strikers and those who 
sympathized with them to prevent others from remaining at 
work. Free use was made of the " boycott," which the Com- 
mission defines as " a form of coercion by which a combina- 
tion of many persons seek to work their will upon a single 
person, or upon a few persons, by compelling others to ab- 
stain from social or beneficial business intercourse with such 
person or persons." 

The violence, intimidation and boycotting which accom- 
panied the anthracite strike, differed only in degree from 
what is to be expected in connection with every serious labor 
disturbance and constitute a strong argument against the 
strikes and lockouts which incite them. They are especially 
apt to occur, for, as the Anthracite Strike Commission pointed 
out, " there can be no doubt that without threats, intimida- 
tion and violence toward those who would otherwise be will- 
ing to remain at work, or take the places of those who had 
ceased to work, the coercion of employers, which a strike al- 
ways contemplates, would be less potent in compelling acqui- 
escence in its demands." Such acts are, of course, illegal, 
but in self-governing communities it becomes very difficult 
to enforce the law when the sympathies of the majority are 
on the side of those who disregard it. Over and over again 
in the United States it has proved necessary to call out the 
militia to prevent riot and bloodshed in connection with 
strikes which have passed beyond the control of the civil 
authorities. 

§ 317. Among the plans for rendering strikes and lockouts 
unnecessary, three different types may be distinguished: (1) 
those which rely on agreements between employers and em- 
ployees to submit differences to boards of arbitration created 
by themselves; (2) those which rely upon the submission of 



TRADE ARBITRATION 547 

disputes to state boards of conciliation and arbitration and 
tiie voluntary acceptance of the awards of these boards; (3) 
those which rely upon compulsory arbitration through state 
boards or courts. 

Trade agreements providing for arbitration when collective Trade 
bargaining fails of its purpose are already common in Great Arbitra- 
Britain and to a less extent in the United States. After a *^°^" 
protracted strike or lockout both employers and employees 
usually recognize the desirability of some arrangement that 
will preclude similar disturbances in the future and out of 
this feeling some plan for arbitrating differences is very apt 
to develop. Such plans are highly beneficial so long as they 
accomplish their purpose, but experience seems to indicate 
that they can only deal with minor differences between em- 
ployers and employees. When important issues arise on which 
the views of the two are diametrically opposed, the compromise 
which is suggested by a board of arbitration may be accept- 
able to neither. In such cases both may prefer to fight it out 
in the old way. 

Experience with the failure of trade agreements to super- Voluntary 
sede strikes and lockouts has led most countries to provide Public 
public boards of conciliation and arbitration. These may be -^rbitra- 
purely voluntary bodies dependent upon the invitation of one 
or both of the parties to the trade dispute for power to take 
any part in it, or independent to the extent that they may 
investigate the causes of a dispute and decide as to its merits, 
although unable to compel the parties concerned to accept the 
decision or refrain from fighting it out in their own way if 
they prefer. The first type of board was that first tried in 
the United States, but it was soon made clear that in a great 
majority of cases neither party to an industrial dispute cares 
to submit it to arbitration before it has passed beyond the 
point where a peaceful settlement can be effected. This con- 
viction has led to the creation in the United Kingdom and in 
several of the states of the United States of boards of con- 
ciliation and arbitration which have power to investigate 
the causes of industrial disputes on their own initiative. There 
seems reason to think that much more might be done along 
this line in the United States. In a great majority of cases 



548 



THE LABOR MOVEMENT 



Com- 
pulsory 
Investiga- 
tion Ad- 
vocated. 



the outcome of a labor dispute is determined by the view 
which the public takes of the points at issue. This is because 
neither side is strong enough to hold out against the other plus 
the public. The great difficulty is that without some means of 
self-education the public can become acquainted with the 
grounds for a labor dispute only after it has gone too far for 
peaceful settlement. A state board of conciliation and arbi- 
tration with power to intervene on the instant that it learns 
of a labor dispute may at times succeed in effecting a settle- 
ment by simply bringing the parties together and suggesting 
possible bases of agreement, at the same time that it removes 
misunderstandings and assuages wounded feelings. Failing 
in this it may, by making its findings in the case public and 
indicating clearly the settlement which appears to it fair, 
bring such pressure to bear upon the less conciliatory dis- 
putant that a compromise will seem better than a fight and 
a prolonged strike or lockout will be avoided. Thus, although 
without power to enforce its award, a state board of concilia- 
tion and arbitration may often prevent strikes and lockouts. 

The chief justification of government interference to settle 
a labor dispute is that the public interest is always more or 
less involved and that for the sake of the public no effort 
should be spared to preserve industrial peace. It was on this 
ground that the President of the United States intervened 
in the anthracite-coal strike already referred to. In its Ee- 
port the Commission, which he created, declared that it had 
been impressed by " the apparent lack of a sense of responsi- 
bility to the public at large, manifested by both operators and 
mine workers, in allowing the controversy between them to 
go to such an extent as to entail upon millions of their fellow- 
citizens the cruel suffering of a fuel famine." In its opinion, 
it continued, " the questions involved in [that] controversy 
were not of such importance as to justify forcing upon the 
public consequences so fraught with danger to the peace and 
good order as well as to the well-being and comfort of society. 
If neither party could have made concessions to avoid a result 
so serious, an arbitration would have prevented the extremity 
which was reached." To secure such a result in future the 
Commission recommended that the President and the gov- 



COMPULSORY ARBITRATION 549 

ernors of the various states be given power to appoint " com- 
missions of compulsory investigation " whenever industrial 
disputes appear to them of sufficient importance to justify 
such a course and that such commissions be clothed with ample 
powers to enable them to collect all requisite information and 
decide intelligently as to the merits of the controversies. The 
utility of such commissions of compulsory investigation can- 
not be doubted, and it is to be hoped that the recommendation 
may be followed by Congress and the state legislatures. 

§ 318. In the United States, notwithstanding the disregard Compui- 
of the public interest so characteristic of both employers and sory Arbi- 
employees during the progress of industrial disputes, there is *^'^*^o^- 
as yet little demand for any more radical remedy than com- 
pulsory investigation. Nevertheless, the experiments that are 
being tried in Australasia with " compulsory arbitration " 
deserve to be watched with attention. The same forces that 
have led all countries to put a stop to civil strife and insist 
that citizens who cannot agree shall bring their troubles into 
court rather than fight over them, may in time cause the adop- 
tion of a similar policy in reference to industrial strife. If, 
as many competent witnesses maintain, strikes and lockouts 
can be entirely superseded by compulsory arbitration without 
detriment either to employers, employees or the public, the 
adoption of the system of compelling the parties to industrial 
disputes to submit their differences to authoritative arbitra- 
tion by all progressive countries is likely to be a question only 
of time and occasion. 

The pioneer in the field of compulsory arbitration was New The New 
Zealand, whose first law making strikes and lockouts misde- Zealand 
meanors was passed in 1894. Experience has led to the re- ^^ ®™* 
peated amendment of this law, but never in the direction of 
curtailing its scope or relaxing the penalties applying to those 
who, in violation of its provisions, interrupt the normal course 
of industry. The form given to the system by the important 
amendment added in 1908 was as follows: In order to come 
under the act at all the workers, at least, and the employers, 
if they take the initiative in the dispute, must be organized 
into " industrial unions." Any fifteen or more employees 
or any three or more employers or an incorporated company 



550 THE LABOR MOVEMENT 

may form such a union. The ofScial charged with granting 
charters to such unions, however, may require the entry of 
applicants into unions already established to prevent their 
needless multiplication. The normal procedure for emploj^ees 
or employers organized in industrial unions, in case a dispute 
arises, is to seek the assistance of the " commissioners of con- 
ciliation," three of whom are appointed by the governor for 
the whole country. Thereupon it is the duty of one of these 
commissioners to proceed forthwith to the scene of the dispute 
and to use his best efforts to bring about a settlement. If 
his individual efforts prove unavailing he must then organize 
a " council of conciliation " by asking each side to appoint 
the same number of " assessors " to serve with him as a con- 
ciliation board. This council reviews deliberately all of the 
issues involved in the dispute and decides upon the solution 
that seems to it to be just under all of the circumstances. If 
either side refuses to accept this solution, appeal from it may 
be taken to the " court of arbitration." This is a very im- 
portant tribunal. Its presiding officer must be a judge of 
the supreme court and its other two members representing 
employers and employees, respectively, are appointed by the 
governor from names proposed by all of the associated indus- 
trial unions of the country. Although ranking just below the 
supreme court, the court of arbitration conducts its operations 
with little regard to the traditional limitations on judicial 
procedure as to rules of evidence, etc. It endeavors in the 
simplest and most direct manner to get at the essential facts 
and has full powers to subpoena witnesses, examine books, 
etc., for this purpose. Taking the decision of the council of 
conciliation as a basis, it arrives at its own formal award, from 
w^hich there is no appeal and which becomes binding on all 
of the disputants for the period named in the award itself, 
usually three years. This award may be extended to embrace 
other employees or em-ployers in the same trade in the same 
locality, or even in the whole country, at the discretion of the 
court. For any one to whom it applies to participate in a 
strike or lockout to secure a change in the conditions which 
it has prescribed is a serious offense. Heavy fines for viola- 
tion are imposed and these are made effective against wage- 



OTHER EXPERIMENTS 551' 

earners by the proviso that they shall stand as a first lien 
against their future wages until they shall have been paid. 
As a result of this system, now in operation for nearly twenty 
years, nearly every trade in which industrial disputes are 
likely to arise carried on in New Zealand has become subject, 
as regards wages, hours and the other conditions of employ- 
ment, to stipulations laid down in the decisions of the Court 
of Arbitration. The system has thus not only put a stop in 
large measure to strikes and lockouts, but has made the rela- 
tions between employers and employees subject to judicial 
determination to an extent that can only be compared with 
the results of Elizabethan legislation in the England of the 
sixteenth century. The vital difference, however, is that the 
legislation of Elizabeth was largely for the benefit of em- 
ployers; that of New Zealand is largely for the benefit of the 
workers. 

The seeming success of New Zealand's experiment induced Other 
New South Wales to adopt the system of compulsory arbitra- Expedi- 
tion in 1902. Western Australia had adopted it a year earlier, 
and in 1904 a federal compulsory arbitration law was enacted 
for the whole commonwealth of Australia. The system of 
New South Wales differed from its model in that it provided 
no local boards of conciliation, but required the reference 
of all disputes to the central Court of Arbitration. It also 
requires that the awards of the latter should apply not merely 
to the disputants, but to the whole trade which they repre- 
sented. Thus the result which was achieved somewhat un- 
expectedly in New Zealand, that is, a comprehensive labor 
code to govern the relations between employers and employees 
throughout the whole country, was deliberately aimed at by 
New South Wales. This code is subject, of course, to modi- 
fication through the law-making power, but, with the labor 
legislation considered in the next chapter, it sets very definite 
limits to free competition and free contract as regulators of 
industrial relations. Compulsory arbitration is still in the 
experimental stage and too novel to be judged either a failure 
or a success, but it certainly merits the consideration of all 
countries interested in the solution of the strike problem. 

§ 319. Experience with the violence and disorder which so 



552 



THE LABOR MOVEMENT 



The Use 
of the 
Injunction 
in Labor 
Disputes. 



Legal 
Justifica- 
tion. 



An 
Example. 



frequently accompany strikes has led in the United States 
to the free use of the judicial process called " the injunction." 
This was developed by English courts of equity as a means 
of preventing irreparable or continuing injuries to property 
for which, from the nature of the particular case, if the in- 
jury were permitted to occur, no adequate damages could be 
secured. The peculiarity about the process is that when a 
court issues an injunction, violation of its order becomes in 
effect contempt of court and exposes the guilty person to such 
punishment as the court itself may decree. The ordinary pro- 
tections accorded to criminals, such as trial by jury and the 
right to be represented by counsel, are set aside, and the 
offended tribunal becomes itself prosecutor, judge and jury 
all in one. The inevitable tendency of the system is to deprive 
trials in injunction cases of that judicial temper which should 
characterize the relation between a court and an accused per- 
son, no matter what his offense. 

The applicability of the injunction process to labor dis- 
turbances is very clear. Workmen on strike are very apt 
to commit acts of lawlessness which involve the destruction 
of property and the interruption of business. Moreover, they 
are usually irresponsible persons in the sense that it would 
be impossible by means of a civil suit for damages to secure 
full redress after the injury had been inflicted. On these 
grounds courts readily issue injunctions to restrain workmen 
from doing illegal acts which involve the destruction of prop- 
erty. Injunctions have even been issued ordering workmen 
not to strike, on the ground that strikes interrupt business 
and cause loss, but the best authority gives no countenance 
to such use. 

From being express orders to designated individuals to 
refrain from doing specified acts, injunctions have developed 
in the United States into sweeping commands to an indefinite 
number of persons ordering them not only not to do specified 
things, but to refrain from lawless acts in general. Thus, 
in the famous Debs case, growing out of the Pullman strike 
of 1894, an injunction was issued by a circuit court of the 
United States to members of the American RailM^ay Union 
and " all other persons whomsoever," enjoining them from 



GOVERNMENT BY INJUNCTION 553 

in any way interfering with the business of twenty-three great 
railway systems. The justification for such comprehensive 
injunctions is that when a serious strike is in progress it is 
impossible to know in advance what particular individuals 
will be moved by the passions of the moment to commit law- 
less acts or what particular acts will be committed. Since the 
injunction never, in theory, prohibits any but unlawful acts 
it is argued that its issue can inflict no injury on law-abiding 
citizens. 

If the law in reference to what may and what may not Objections 
be lawfully done in connection with a strike were clear and *° ^'"■^^ 
definite, this justification would be convincing. But unfor- ^^' 
tunately in the United States, as has already been pointed 
out, the law is neither clear nor definite. " Violence," " in- 
timidation," " conspiracy," the phrases habitually used to 
designate the lawless acts likely to be committed by strikers, 
are differently defined in different jurisdictions. Under these 
circumstances some courts will issue injunctions to restrain 
acts which to other courts do not seem to justify resort to 
this extraordinary remedy ; some judges will punish for con- 
tempt of court for acts which others v\^ould not deem to fall 
under the phrases which they all agree in using. Even more 
serious, as a reason for the opposition of American wage- 
earners to the injunctive process, is the conviction impressed 
upon them by the language used in judicial decisions, that 
American courts fail to balance fairly the personal rights at 
issue in industrial disputes. In endeavoring to protect the 
property interests of employers they are charged with over- 
looking the personal rights of employees. In jury trials these 
personal rights receive due consideration and for this reason 
deprivation of the right to trial by jury in contempt cases 
seems to workmen a peculiar hardship. 

To the writer the remedy for this situation appears to be, B,emedies 
not the abolition of the injunctive process in connection with ^oposed. 
labor disputes nor its serious modification, since its efficacy 
as a means of preserving law and order when other means 
fail has been abundantly demonstrated, but the education of 
judges to a more sympathetic appreciation of all the rights 
involved in labor disputes and the clear formulation in statute 



554 



THE LABOR MOVEMENT 



The In- 
fluence of 
Trade 
Unions on 

Wages. 



law of the acts in connection with such disputes that are un- 
lawful. To these reforms should be added a distinction be- 
tween contempts of court committed in the presence of the 
judge and those committed outside of the courtroom. As to 
the last the admission of the rights to counsel and to trial 
by jury would seem to involve no serious danger to judicial 
dignity. It is a noteworthy fact that in the United Kingdom, 
where the law in reference to strikes is clear and definite, al- 
though the British courts employ injunctions as freely as do 
our own, " government by injunction " is not complained of 
by the British labor press, much less made a political issue by 
the Labor Party. 

§ 320. The theory of wages that has been explained in these 
pages is that under conditions of free, all-sided competition 
workmen will tend to secure wages corresponding closely to 
the additions their labor makes to the value of the product. 
We have now to inquire what effect the presence of trade 
unions has upon the operation of this law. Do they serve 
merely to equalize conditions between employers and em- 
ployees so that the competition between them is really freer 
I because fairer, or do they introduce an element of monopoly 
on the side of labor which enables workmen to secure more 
than free competition would bring to them? In the opinion 
of the writer their influence in all but exceptional cases is 
confined to the first effect. In most trades in the United States 
there are both union and non-union men seeking employment. 
Unionists are striving constantly to induce non-unionists to 
unite with them in the effort to secure better terms from em- 
ployers, but because of selfishness, short-sightedness, indiffer- 
ence, or some other reason, there are always some workers 
who refuse to do so. As a consequence of this situation there 
is a source of supply on which employers may draw for their 
labor in case of emergency, which the unions are unable to 
control. The competition for employment of this unorgan- 
ized labor sets a limit to the influence which the unions can 
have upon wages. The very best they can do for their mem- 
bers is to secure for them the full competitive rate. If they 
try to secure more employers will refuse to employ all of 
them, defections to the ranks of the non-unionists will occur. 



OPEN UNIONS 555 

and the competition for employment of these non-unionists 
will break down the standard rate. On the other hand, if 
they follow their own interest intelligently they can secure 
not only for their own members, but for all the workmen in 
the trade, approximately the full competitive rate of wages. 
Representative employers can afford to pay this and will do 
so if their ability in bargaining is matched on the other side. 
The services the unions perform in securing this result may 
be summarized under the following heads: (1) they are or- 
ganized to resist unfair terms and to cause loss to the em- 
ployer who attempts to cut wages below the fair competitive 
rate; (2) they keep workmen informed as to the rates that 
are actually paid and in this way protect them from making 
bad bargains through ignorance; (3) they inform themselves 
in regard to general market conditions and force employers 
to advance wages when conditions are favorable, more 
promptly than they would without such pressure. 

This account of the influence of trade unions fails to con- Open 
sider trades in which all or practically all workmen belong to Anions 

unions. Such trades are, as stated, rare in the United States 

nopolies. 
and even in the United Kingdom, but that makes them no 

less interesting, since they represent the type whose realiza- 
tion is the goal of trade unionists' efforts. The influence of 
the unions on wages in such trades depends upon their policy 
in reference to the admission of new members. This policy 
is controlled in most factory employments by the ease with 
which the tasks to be performed can be mastered. When, as, 
for example, in the textile trades, no long apprenticeship is 
necessary, the unions must admit every one to membership 
whom employers will hire, on pain of losing control over the 
industry. When a union is open in this way to all comers 
the rate of wages wiiieh it can secure for its members cannot 
exceed the competitive rate for workmen of the given grade 
of skill. If it did employers could not afford to hire all of the 
members of the union. The unemployed would become dis- 
satisfied and either leave the union or force it to lower the 
standard rate until the demand should absorb them as well 
as their more fortunate fellows. In either event the standard 
rate would be brought to correspond closely to the eompeti- 



556 



THE LABOR MOVEMENT 



Closed 
Unions 
May Be 
Monopo- 
lies. 



tive rate, as it was by the competition of non-unionists in the 
previous case. 

§ 321. There are some trades in which the unions control 
practically the entire labor force and in which conditions 
permit the use of such control as a means to securing monop- 
oly earnings. These are trades in which a long period of 
apprenticeship is necessary to the mastery of the tasks to 
be performed or in which legal obstacles, such as the require- 
ment of a certificate of proficiency as a condition to engaging 
in the trade, prevent any sudden increase in the number of 
master-workmen. When a trade union becomes strong enough 
in a trade of this type to limit the number of apprentices, or 
to determine the period of apprenticeship or the severity of 
the examination necessary to entrance to the trade, it may 
exercise effective control over the supply of competent work- 
men. By limiting such supply it may secure a virtual mo- 
nopoly for its members and advance their wages to any point 
which the demand for their services permits. The manage- 
ment of such a monopoly calls, of course, for tact and skill 
because it has to contend with the opposition of other work- 
men who would like to learn the trade and are prevented 
from doing so, with the opposition of employers who object 
to paying such high wages and with the opposition of the 
consuming public which objects to paying high prices for 
the products of the labor monopoly. Nevertheless, such mo- 
nopolies have existed and do exist, and the realization of them 
is the deliberate purpose of many trade unionists. That such 
labor monopolies are as much open to public condemnation as 
any other species of monopoly not controlled in the general 
interest seems to the author too clear for argument. Unions 
which make such control of the labor supply in their trades 
the object of their efforts and seek to realize it by limiting 
the number of apprentices, charging exorbitant initiation fees, 
refusing to work with non-unionists and using every means 
from strikes to intimidation and violence to prevent non- 
unionists from gaining a foothold in the trade, must expect 
to meet the same criticism that is leveled against the trusts 
and other would-be monopolies. All of these policies, except 
intimidation and violence, are defensible as means to main- 



OTHER PURPOSES OF UNIONS 557 

taming standards of workmanship and standards of pay pro- 
portionate to earnings in other trades. None of them is de- 
fensible as a means of preventing ambitious and competent 
men from mastering the trades concerned and deriving the 
same benefits from their energy and enterprise as do those 
already in the trade. 

§ 322. In addition to the purposes that have been consid- Other 
ered trade unions have other objects that deserve commenda- ^^^P^^es 

• of Trsdc 

tion. Many unions, especially those in skilled trades, act as „ . 
mutual insurance associations for their members. By provid- Mutual 
ing unemployment, sick, death and other benefits they render insurance, 
a valuable social service. But perhaps the most important 
aspect of their work is the educational. By bringing their 
members together to discuss questions of common interest they 
do a great deal to make them more intelligent and broader 
in their insight into economic and political problems. The 
experience which workmen get in managing their unions helps 
them to appreciate the importance of organization as a condi- 
tion to success and also to perceive the value of the industrial 
service which their employers render. In the same way the 
accumulation and administration of the funds which they 
collect gives them clearer notions in reference to the origin 
and service of capital. From these facts it results that lead- 
ing trade unionists are apt to be men of unusual ability, whose 
views on the labor question are constructive rather than 
revolutionary, and who, in the absence of personal prejudice, 
command the respect and esteem of employers almost as much 
as of their fellow workmen. 

The most important book dealing with trade unions in the Industrial 
United Kingdom that has yet appeared bears the significant Democ- 
title, " Industrial Democracy." This makes promment an- 
other service which trade unions render. As miniature 
democracies they reproduce on a smaller scale the self-gov- 
erning states on whose success the future of civilization so 
largely depends. Their members learn in them how to give 
way when they cannot persuade, how to sacrifice smaller for 
greater ends and in general how to defer without rancor to 
the opinions and prejudices of others — qualities which are 
essential to the successful working of democratic institutions. 



558 



THE LABOR MOVEMENT 



Labor 
legisla- 
tion. 



Public 
Policy 
Advocated. 



The authors of the work referred to, Mr. and Mrs. Webb, con- 
clude that trade unions are preparing the way for the great 
cooperative commonwealth or socialistic state which they 
think is in process of development. Whether they are right 
in this anticipation or not, there can be no question of the 
value of membership in a trade union as training for useful 
citizenship. 

Still another service rendered by trade unions is in connec- 
tion with labor legislation. Through their very position trade 
unionists are led to perceive the need for labor laws before it 
is appreciated by the whole community. Again and again 
in the United Kingdom and the United States their agitation 
has secured the enactment of beneficent labor regulations. It 
would be exaggerated praise to ascribe to them all the progress 
that has been made in this field, or to maintain that they 
have not at times agitated for bad as well as for good labor 
laws; at the same time trade unions deserve more credit than 
any other single agency for what has been accomplished. 

§ 323. Thus far the history of the labor movement in the 
United States has been the history of the spontaneous efforts 
of wage-earners to help themselves through organization. 
Trade unions have been allowed to grow up and have even 
at times been encouraged by special laws protecting their 
union labels and facilitating their incorporation, but little or 
nothing has been done in the direction of subjecting them 
to legal regulation. If the analysis of the services rendered 
by trade unions and the excesses of which they may be guilty 
which precedes is accurate, it is desirable that the state assume 
a more positive policy toward them. Their monopolistic tend- 
encies should be curbed. Effective measures should be taken 
to make it to their interest to preserve law and order during 
industrial disputes. Finally, unions which are both non- 
monopolistic and law-abiding should be encouraged by the 
grant of special privileges. It would take too long to outline 
an adequate program of trade union regulation, but certain 
features of such a program may be indicated. The only means 
by which a trade union can maintain a labor monopoly is by re- 
stricting its membership through unreasonable apprenticeship, 
entrance fee or examination rules coupled with agreements 



INDUSTRIAL RELATIONS COMMISSION 559 

with employers which confine employment to union members. 
Trade unions' might be prohibited from making or enforcing 
such unreasonable restrictive rules and brought under the 
supervision of some officer or commission, charged with the 
task of seeing the prohibition enforced. By these means close, 
monopolistic unions might be rendered impossible. With all 
unions open, " closed-shop " agreements, which now seem un- 
fair and oppressive, take on a very different aspect. Should 
there be objection to entering at once upon a full-fledged pro- 
gram of trade union regulation, the policy might be intro- 
duced by confining the protection which the law extends to 
trade union funds to those whose rules guarantee admission 
to membership to all respectable and competent workers in 
the trade. Such unions might be allowed to register under a 
designated state officer on having their rules approved by him, 
and might, as registered unions, enjoy privileges not extended 
to non-registered bodies. To check the tendency of unions 
to participate in, or to condone, acts of lawlessness in con- 
nection with trade disputes, it might be provided that per- 
sons convicted of such acts of lawlessness should be imme- 
diately suspended or expelled from the unions of which they 
were members, or, under the second plan, from registered 
unions on pain of forfeiture of the privileges attached to reg- 
istration. In either of these ways the present lack of any 
certain means of distinguishing between good and bad unions 
might be remedied and a situation created much more favor- 
able to the realization of those trade union ends which har- 
monize with the general interests of the community. 

That the present relations between employers and employees The 
in the United States are unworthy of a civilized society will Industrial 
be questioned by no one after the revelations brought out at 
the trial of the McNamara brothers in 1912. The career of 
dynamiting the property of hostile employers in which they 
and their confederates were engaged was provoked by the 
attitude of uncompromising hostility of these employers 
toward labor organizations, wfiich was all the more indefensi- 
ble because the employers, to make their hostility effective, 
were themselves strongly organized. Satisfactory relations 
between employers and employees can only exist on the basis 



Commis- 
sion. 



560 THE LABOR MOVEMENT 

of a frank and straightforward recognition by each of the 
rights of the other. Wage-earners have a perfect right to 
organize. In fact, without organization they must be at a 
great disadvantage in bargaining with employers. Employers 
have an equal right to organize, but they have no right to use 
the power so gained to compel employees to enter into indi- 
vidual Avage-contracts. Their organizations should be pre- 
pared to treat with employees' organizations, for the purpose, 
on the one hand, of entering with them into fair and reason- 
able collective wage-agreements, and, on the other, of oppos- 
ing any unfair or unreasonable demands which they may 
present. Unfair demands will, doubtless, be made, but em- 
ployers who attempt to meet these by " smashing the union " 
are sowing the wind to reap the whirlwind. The conviction 
that the present situation is a menace to the peace and pros- 
perity of the whole country has led Congress, on the recom- 
mendation of the President, to create (1912) a Commission 
on Industrial Relations, whose report should do much to edu- 
cate public opinion on this important problem. 



REFERENCES FOR COLLATERAL READING 

* Adams and Sumner, Labor Problems; *Gihnan, Methods of Industrial 
Peace; ^Commons, Trade Unionism and Labor Problems; * Brooks, 
The Social Unrest; *Levasseur, The American Workman; * Mitchell, 
Organized Labor; Carlton, History and Problems of Organized Labor; 
Clark, The Law of the Employment of Labor of the United States; 
National Conference on Industrial Conciliation and Industrial Con- 
ference of the National Civic Federation, 1901 and 1902; Reports of the 
LTnited States Bureau of Labor; Bulletins of the United States 
Bureau of Labor; Reports and Bulletins of the Bureau of Labor 
of Massachusetts; Reports and Bulletins of the Department of Labor 
of New York; The American Federationist (published by the Ameri- 
can Federation of Labor) ; Report of the Commission on the An- 
thracite Coal Strike (1903); Report of the United States Industrial 
Commission, Vols. VII., VIIL, XII., XIV. and XVII. 

The labor movement in Great Britain receiA^es consideration in the 
following works: *Stfdney and Beatrice Webb, Industrial Democracy 
and History of Trade LTnionism; De Rousiers, The Labour Question in 
Britain; *Drage, The Labour Problem; * Report of the Royal Commis- 
sion on Labour, (1894); Schloesser and Clark, The Legal Position of 
Trade Unions; *Seager, The Legal Status of Trade L^nions in the United 
Kingdom (article in Political Science Quarterly. Vol. XXII.). 

New Zealand's experiment with Compulsory Arbitration is discussed 



REFERENCES 561 

in the Report which Judge Backhouse prepared for New South Wales, 
entitled Report of the Royal Commission on the Working of Com- 
pulsory Arbitration Laws, and in Chap. I., Vol. II., of *Reeves, State 
Experiments in Australia and New Zealand (bibliography). See also: 
*Clark, The Labor Movement in Australasia; Broadhead, State Regula- 
tion of Labour and Labour Disputes in New Zealand; *Le Rossignol and 
Stewart, State Socialism in New Zealand. 



of Chil- 
dren. 



CHAPTER XXX 
LABOR LEGISLATION 

Eeasons § 324. The laissez-faire^ or non-interference, policy, which 

or abor ^^^ substituted for the policy of legal restriction in the United 

^jpj^ Kingdom during the first half of the last century, has been 

from the first subject to one important exception. It has 
never been allowed to include fully the relations between em- 
ployer and employee. Reasons for this exception were sug- 
gested in the last chapter, but they must now receive more 
careful consideration. 

In Case Unorganized workers do not bargain on terms of equality 

with employers. That this is the case when the workers are 
children will scarcely be questioned by any one. Employers 
of such labor stand to it in a relation half paternal and have 
it in their power to make or mar the young lives that are 
devoted to their service. To protect children from the rapac- 
ity and cruelty of unscrupulous employers labor laws have 
been found necessary in every civilized country. 

In Case of It is generally, although not universally, conceded that 
protective labor laws ought to extend to women as well as 
to minors. Such extension is defended by those who think 
that the activity of women should be confined so far as possi- 
ble to the domestic circle, on the ground that women are 
unfitted for the rough and tumble of industrial competition, 
and if permitted to work for wages at all, should do so on 
conditions marked out for them by law. A reason more cer- 
tain to command general assent is the simple fact that women 
wage-earners have not yet learned to organize unions or to 
protect themselves in other ways and are, therefore, more 
often the prey of grasping employers when the law fails to 
protect them than are men. 

In Case jf the second of the above grounds be accepted as a justilS- 

cation for laws protecting women wage-earners, there seems 

562 



Women. 



of Men. 



THE UNITED KINGDOM 563 

no reason why such laws should not be extended to men in 
those trades in which they do not bargain on equal terms 
with their employers. This view has, as we shall see, found 
expression in many countries in connection, especially, with 
legislation affecting the so-called sweating trades. 

Another reason for protective labor laws, than inequality 
in bargaining power between employers and employees, is 
the ignorance and carelessness of wage-earners. Ignorance 
often leads workmen to assume risks and undertake tasks 
on terms that they would not with full knowledge accept. 
Once committed, the inertia that is characteristic of all men 
prevents them from repudiating their bargains. Carelessness 
is an even more common cause of contracts of employment 
that are socially undesirable. This is conspicuously the case 
in dangerous trades. The natural optimism of workmen leads 
them to feel that whatever the dangers may be, they them- 
selves will escape. The result is that they accept risks, even 
certainties, of disease and death on terms that compensate 
neither them, their families nor society at large for the waste 
of life which such employments entail. It is on this account 
that special legislation in reference to the conditions of em- 
ployment in dangerous trades has been found necessary, and 
on it also are based the laws in reference to employers' liabil- 
ity for injuries to their employees and industrial insurance 
that are discussed in Chapter XXXII. 

In drafting protective labor laws the end to be held con- 
stantly in view, it is hardly necessary to add, should be the 
good of the whole community. This should be conceived in 
no narrow spirit, but should take full account of the effect of 
restrictions on slowly evolving society. A temporary benefit 
should not be preferred if its result is likely to be the con- 
servation or encouragement of an undesirable) ^^pe of person, 
nor should temporary inconvenience or loss be shunned if its 
long-run result is likely to be advantageous. 

§ 325. The history of labor legislation in the United King- labor 
dom is instructive on many accounts. No country has gone i-egisla- 
further in its adoption of the laissez-faire policy as regards ^^^ United 
other industrial relations and in none have the successive steps Kingdom, 
in the development of the comprehensive law which now pro- 



564. 



LABOR LEGISLATION 



In the 
United 
States. 



The Con- 
stitution- 
ality of 
Labor 
Laws. 



tects not only children and women, but adult men, been so 
vigorously opposed or finally passed on the basis of such care- 
ful study of actual conditions. 

The United States has been much influenced by British 
legislation in this field and a comparison of the labor laws 
of the two countries shows that time and again British laws 
have served as models for the regulations drafted by Ameri- 
can legislatures. At two points, however, there have been 
important differences. In the United States labor relations 
have been objects, for the most part, for state rather than 
national legislation, and here this legislation, unlike that of 
the British Parliament, has alwaj^s been subject to judicial 
review. As interpreted by the courts both the state and the 
federal constitutions guarantee freedom of contract and im- 
munity from special or class legislation. These guarantees 
are not absolute. All authorities agree that they may be set 
aside in the exercise of the state's " police power " when the 
purpose is to protect the public safety, health or morals, or 
even to advance the general welfare, and when the proposed 
legislation is reasonably calculated to accomplish these ob- 
jects. Unless a labor law can be justified on these grounds, 
however, it will be declared unconstitutional. 

A study of American decisions in cases involving labor 
laws is well calculated to confuse even the legal mind. There 
is scarcely a regulation, from a restriction on the payment 
of wages in company store orders to the provision that men 
may be employed no more than eight hours a day in specified 
industries, that has not been declared unconstitutional in cer- 
tain sections of the country, only to be upheld as a legitimate 
exercise of the police power in others. The Supreme Court 
of Pennsylvania characterized an act prohibiting the payment 
of wages in orders on a company store as " utterly unconsti- 
tutional and void " and went on to say that it represented 
" an insulting attempt to put the laborer under a legislative 
tutelage, which is not only degrading to his manhood, but sub- 
versive of his rights as a citizen of the United States, ' ' and yet 
similar measures have been upheld in several of the other states 
as proper and beneficent restrictions. The Supreme Court 
of Illinois declared an eight-hour law applying to women em- 



CONSTITUTIONAL QUESTION 565 

ployed in the sweating trades unconstitutional on the ground 
that it involved class legislation, and yet the courts in Massav 
chusetts, New York and even Pennsylvania have affirmed the 
right of the legislature to single out women and the sweat- 
ing trades for restrictions which do not apply generally 
throughout the community. Finally, the Supreme Court of 
Colorado declared unconstitutional an eight-hour law apply- 
ing to men employed in the mining and smelting industries 
on the ground that if such a law was calculated to protect 
the health and morals of any one, it could only be of the very 
men whose work was restricted, and that the legislature had 
no right to restrict freedom of contract for the benefit only 
of the persons whose liberty was thus limited; and yet the 
Supreme Court of the United States had declared, in uphold- 
ing the constitutionality of an identical statute previously 
passed by the state of Utah, that the legislature had the right 
to protect an individual even " against himself," on the 
ground that " the state still retains an interest in his welfare 
no matter how reckless he may be," and that when " the in- 
dividual health, safety and welfare are sacrificed or neglected 
the state must sufi^er. " In all of these cases, except the last, 
the difference of opinion concerns not the principle involved, 
but its application, and it requires no great insight to perceive 
that the really determining consideration was whether the 
particular measure was deemed wise and beneficent or the re- 
verse. If expedient, a restriction on labor must always be cal- 
culated to protect the health, morals or welfare, at least of the 
protected classes. If inexpedient, it becomes thereby an ille- 
gitimate exercise of the police power for the simple reason 
that it is not calculated to secure, in a large sense, the ends 
for the realization of which that power exists. It folloAvs that 
the constitutional obstacle to labor legislation in the United 
States may be expected to give way so soon as public opinion, 
and particularly judicial opinion, has been educated to the 
point where it approves of such legislation. As laws that may 
be passed in this field are not likely to be enforced unless 
public opinion is behind them, this obstacle ought not to re- 
tard unduly the enactment of such restrictions as industrial 
conditions call for. 



566 LABOR LEGISLATION 

Child- g 326. The development of child-labor laws in the United 

labor States has been closely connected with the growth of public 

schools to serve as substitutes for the factory and workshop. 
States. Those states which have given most attention to questions 

of education, like Massachusetts and New York, have adopted 
the most rigid child-labor laws. On the other hand, the states 
whose public educational systems are backward, as are those 
of the South, have lax child-labor laws. During the last 
decade a great deal of attention has been given in the United 
States to the needs of children and not a year now passes that 
additions are not made to the protective laws of some of the 
states. At the time of writing (1912) the child-labor law of 
New York sets as high a standard as that of any state. Under 
this law no child under fourteen may be employed in manufac- 
turing or mercantile pursuits and no child under sixteen may 
be employed without an " employment certificate." Such 
certificates are issued by the local boards of health only on 
the basis of documentary or other conclusive evidence of age 
and of school attendance or proficiency, and of a physical 
examination to determine fitness. Children from fourteen to 
sixteen who obtain such certificates may be employed not more 
than eight hours a day in factories and not more than nine 
in mercantile establishments. To facilitate enforcement, the 
working period for children in factories is rigidly restricted 
to the hours from 8 A. M. to 5 P. M. From this high standard 
the child-labor laws of the other states digress to the low 
standards still found in some of the Southern States. An 
efficient agency for hastening reform in this field of legisla- 
tion is the National Child Labor Committee. From its head- 
quarters in New York City this association is engaged in 
organizing local sentiment to secure better laws and more 
rigid enforcement in those communities where standards are 
lowest. Through its efforts and those of the local commit- 
tees affiliated with it, there is good promise that the standard 
already attained in New York and in half a dozen other states 
will in no very long time become in its essential features the 
uniform standard for the whole country. 

Equally important with restrictions on the labor of chil- 
dren are provisions insuring their attendance at suitable 



WOMEN WORKERS 567 

schools up to the age when they are permitted to become 
bread-winners. As the public schools are improved and ex- 
tended, little argument will be needed to demonstrate the 
advantage of having every boy and girl enjoy the training 
they afford, or equally good training, up to the age at least 
of sixteen. Merely as a commercial investment, public money 
spent on such training is sure to yield rich returns in the 
superior industrial efficiency of the population. In order 
to insure that full advantage will be taken of the public 
schools it is necessary to restrict the employment of children 
more rigidly than regard merely for their physical develop- 
m-ent would require. On this ground the prohibition of the 
employment of children under fourteen should be looked upon 
as only a beginning. By successive steps the minimum age of 
employment should be raised at least to sixteen, and school 
facilities should be increased and improved so that all chil- 
dren up to that age shall be given the best educational advan- 
tages. 

§ 327. As regards the labor of women, labor legislation in Laws 
the United States is still backward in comparison with that Protecting 

of the more progressive countries of Europe. In several of ^°™^^ 

Workers 
the states there are still (1912) no restrictions on the work- . ,, 

^ \ m the 

ing hours of women. The restrictions in the others are com- united 
monly limited to the prescription of the ten-hour day and states, 
sixty-hour week and often in such form that the enforcement 
of the law is exceedingly difficult. This has been due not 
only to the indifference of state legislatures but also to the hes- 
itation of the courts in admitting that such restrictions are 
constitutional. In Illinois it was not until 1910 that the view 
asserted by the Supreme Court of the state fourteen years 
earlier that a law limiting the hours of employment of women 
in certain occupations was class legislation and, therefore, 
unconstitutional was superseded by the more enlightened 
opinion that it is reasonable and proper to limit the labor of 
women, although the labor of men in the same occupations 
may remain unlimited and that, therefore, a ten-hour law for 
women is constitutional. In New York the Court of Appeals 
upheld the right of the legislature to limit the daily hours 
of employment of women, but declared unconstitutional the 



568 LABOR LEGISLATION 

provision prohibiting their employment at night (1907). This 
decision was all the more surprising because the year before 
some of the leading countries of Europe had come together 
at the invitation of Switzerland to ratify a treaty by which 
they mutually bound themselves to prohibit the night work 
of women within their respective territories for the promotion 
of the public health and welfare. The New York decision 
still (1912) stands as the only one in which this issue has 
been discussed. Partly in consequence of it only three states, 
Massachusetts, Indiana and Nebraska, prohibit night work for 
women, while such a progressive state as Wisconsin expressly 
permits night shifts for women workers with the qualifica- 
tion that eight hours at night shall be deemed equivalent to 
the ten hours' employment permitted during the day (1911). 
The opposition to special restrictions on the working hours 
of women, so far as it is disinterested, is based on the fear 
that these may serve to undermine their spirit of independ- 
ence. Experience seems to indicate that they have, in fact, 
a directly contrary effect. By preventing employers from 
prescribing working hours that would be detrimental to the 
health of their women employees, they permit such women 
to retain that state of mind and body that is indispensable 
to any real independence of thought and action. So long as 
the restrictions apply generally to all women and are neither 
extreme nor unreasonable, there is nothing in them to lessen 
the self-respect of the protected classes. They are accepted 
as are the other circumstances of life over which the persons 
affected have no control and strengthen rather than weaken 
their determination in dealing with those conditions which they 
may hope to modify. The reasons for regulating the employ- 
ment of women apply with special force to those who are mar- 
ried. In the United Kingdom the law prohibits the employ- 
ment of such women within four weeks after childbirth, and 
all medical authorities agree as to the importance of such a 
restriction. Many thoughtful persons think that the law 
should go even further and either prohibit altogether the em- 
ployment of married women in shops or factories or limit 
it to married women without infant children. Desirable as 
such a limitation would be in many cases, the impossibility 



LEGAL EIGHT-HOUR DAY 569 

of enforcement is a decisive objection to it. It seems wiser 
to rely upon the education of married women themselves and 
their husbands, and upon the influence of public opinion, to 
restrict their employment to cases in which it involves no sac- 
rifice of the interests of children. 

§ 328. Restrictions in reference to hours of employment, The legal 
imposed in some instances by law and in others by the rules Eight-hour 
of trade unions, have advanced so far in the United States ■^^^• 
that there is now widespread agitation for a legal eight-hour 
day, to apply to all employees in all trades. This period of 
employment has already become general for government em- 
ployees. It is common in the building and other skilled trades. 
In other employments, nine, ten and even twelve-hour periods 
are still the rule, but many people believe that the time is 
ripe for the change to eight hours. 

Much as may be said in support of a further shortening of Arguments 
the working day in many employments, the proposal that a against It. 
uniform period be imposed by law upon all alike seems, to 
say the least, premature. Different occupations make differ- 
ent demands on the strength and nervous energy of workmen, 
and a workday that would be moderate for one kind of em- 
ployment would be excessive for another. These differences 
have been considered in the development of protective labor 
laws in the distinctions made in all countries between manu- 
facturing, mercantile and other pursuits. To disregard them 
by establishing a uniform eight-hour day would be to ignore 
considerations to which more rather than less attention ought 
to be given. Such differences are important not merely from 
the point of view of protecting workmen from undue fatigue 
but from that of efficient production. For certain trades 
there is no doubt that the adoption of the eight-hour day 
would involve no reduction in output. In them, the shorter 
work period would insure more active and intense exertion 
on the part of workers than they can maintain when em- 
ployed for nine or ten hours. On the other hand, it is equally 
certain that in other trades reducing hours to eight a day 
would reduce the output. The effect of this in the long run 
would normally be to reduce wages, and it is highly probable 
that such a reduction would in many cases inflict more injury 



for It. 



570 LABOR LEGISLATION 

than the shorter workday could compensate. Thus from the 
point of view both of the strain on the worker and the effect 
on the output there are sound economic reasons for workdays 
of varying lengths. 
Arguments Qn the other hand, it cannot be denied that there are 
weighty social and practical reasons in favor of the universal 
eight-hour day. The chief social reason is the greater and 
greater importance which men and women ascribe to leisure 
for social intercourse and recreation as the struggle for a bare 
living becomes less severe. From the viewpoint of this desire 
for leisure there is as much to be said in favor of an eight- 
hour day in one occupation as in another. The demand, eight 
hours for work, eight hours for meals and relaxation and eight 
hours for sleep, thus makes a general social appeal and seems 
as reasonable to those who could work nine hours or ten hours 
without undue fatigue as to those who find more than eight 
hours exhausting. The practical reason is that the task of 
differentiating between different employments and deciding 
as to the precise length of the workda}^ that is adapted to 
each is one of great difficulty. Labor legislation must content 
itself with rough approximations, and, although it might be 
true that eight hours and a half or even nine or ten hours 
in one employment was no more fatiguing for the average 
man than eight in another, it would still be difficult to prove it 
to the satisfaction of all concerned. It is thus much easier to 
prescribe the length of the workday for great groups together, 
leaving it to the workers themselves and their employers to 
offset differences in the toil demanded by different occupations 
by changes in rates of wages. It is on these grounds that 
legislation in regard to government employees usually pre- 
scribes the same number of working hours a day irrespective 
of the nature of the employment. As prescriptions in regard 
to hours for men in private employments become more com- 
mon, it is highly probable that these social and practical con- 
siderations will guide them in the direction of the universal 
eight-hour day. 

The view that restrictions on working hours should be con- 
fined to women and children, though tenaciously held, must 
give way before the conclusive evidence that men are often 



THE SWEATING SYSTEM 571 

equally in need of such protection. Skilled workmen, espe- Conclusion 
cially when organized in trade unions, do not usually require ^^ to 
protection. To unskilled workmen, however, labor legislation ^°".^ 
may be the indispensable means to the attainment of a higher fo^Men^"^ 
standard of living and of industrial efficiency. The argument 
that it serves to undermine the spirit of independence has 
already been examined and rejected. Those who advance it 
fail to consider that deadening and monotonous toil too long 
continued is more inimical to the spirit of independence than 
any amount of regulation. They also ignore the fact that 
restrictive labor laws are usually passed out of deference to 
the wishes of those they are designed to protect, and that 
they are often the only means by which a determined major- 
ity can prevent an ignorant or selfish minority from blocking 
progress. Here, as elsewhere, it is often desirable for the state 
to interfere to establish the plane of competition, and experi- 
ence affords no ground for the view that self-reliance and the 
spirit of self-help are lessened by an exercise of legislative 
authority to advance this plane to ever higher levels. 

§ 329. Industrial progress, like progress in other fields, has The 
its dark as well as its bright side. The dark side in connection Sweating 
with conditions of employment is presented in the so-called ^^ ^™' 
" sweating trades." These are carried on in large cities 
everywhere and have even spread to country districts. A de- 
scription of the system as it prevails in connection with the 
clothing industry will reveal its salient features. As this 
industry is now carried on, it is divided into various stages. 
Cutting the cloth from which garments are to be made is per- 
formed under the direct superintendence of the manufacturer. 
The pieces are then tied in bundles and turned over to con- 
tractors who agree to have them made up at so much a gar- 
ment. These contractors convey them to their shops, the 
" sweat-shops " proper, and either have the work done there 
under their own supervision by poorly paid and over-worked 
men, women and children, or else subcontract them to men 
and women who make them up in their own homes. 

The evils that result from the sweating system are that Its 
wages are low and unequal for the same kinds of work, em- ^^^is. 
ployment is irregular, hours are long, the premises on which 



572 LABOR LEGISLATION 

the work is done are insanitary and, finally, there is little 
chance for advancement in the trade for the rank and file of 
workers. The system owes its existence to a number of causes. 
In the first place, the work to be done is of the simplest 
character, and any person of ordinary intelligence can learn 
to do it, after a fashion, after a few hours' instruction. This 
throws it open to the competition of men, women and chil- 
dren of all classes and conditions. Home work is taken by 
the well-to-do wives of laborers as a means of securing pin- 
money, and also by poor widows struggling to keep their chil- 
dren from starvation. Men too old for any other kind of 
work sew side by side with young children who ought to be 
in school. The consequence of this competition is that the 
labor market is always overstocked and wages correspondingly 
depressed. In the cities of the United States competition for 
employment in the sweating trades is made especially severe 
by the steady influx of immigrants, many of whom find this 
species of work the easiest to take up, and do not learn, until 
after they have been in the country some time, how much 
worse off they are than American workmen in other trades. 
Another cause is the ignorance and comparative isolation of 
the workers. This applies especially to those who work at 
home. They go to the contractor, or " sweater," singly or 
in pairs, and have to rely largely on his fairness in deter- 
mining what they ought to get for their work. The success 
of the sweater depends upon the shrewdness and relentless- 
ness with which he takes advantage of his position. He 
makes a special bargain with each outworker and gets the 
best terms he can, irrespective of what he is paying others 
for the same work. The different piece prices to which this 
may give rise was illustrated in Philadelphia during the 
Spanish- American War, when standard army trousers, all of 
which had to be passed upon by the same government in- 
spectors, were being made up in different shops for from 
thirty -five to seventy-five cents a garment. Still a third cause 
of the system is the irregularity of the demand for the goods 
produced. At certain seasons work is active and contractors 
who have taken ^' hurry-up orders " drive their employees 
to the extreme limit of human endurance. At other times 



REMEDIES FOR SWEATING 573 

work is scarce and the competition for it is so severe that 

earnings are reduced to a starvation level. This irregularity 

is perhaps the worst aspect of the sweating system, since it is 

destructive alike of health and character. 

§ 330. It is easier to perceive the causes of the sweating Remedies 

system than to devise remedies, and yet much has already Tried in 

been done to improve conditions. In American cities the plan ^^ ^ 
. , . -11. • ■ • • 1-11 . Kingdom 

IS being tried of requiring premises m which the sweating ^^^ 

trades are carried on to be licensed for the purpose, and of united 
making the issue and continuance of licenses contingent on States, 
compliance with sanitary and labor regulations. The factory 
inspectors are required to inspect the shops and homes in 
which such work is performed and to hold contractors re- 
sponsible for work done in unlicensed premises. In the United 
Kingdom a further step has been taken by making the manu- 
facturers for whom the work is being done responsible for 
the sanitary condition of the premises in which it is per- 
formed, after notification by the inspector that these premises 
are unsatisfactory. Either system requires for its successful 
operation a larger force of factory inspectors than has usually 
been provided. Moreover, even if rigidly enforced, the meas- 
ures thus far taken in the United States would remedy only 
one phase of the sweating evil, that is, the insanitary condi- 
tions under which the work is carried on. The long hours 
and low wages, which are its worst features, remain un- 
affected. 

The most drastic remedy yet applied to the sweating evil Minimum 
was adopted by the state of Victoria, Australia, in 1896, Wage 
through the creation of wage boards consisting of from four 
to six members to be chosen one-half by employers and one- 
half by employees and empowered to fix not only wages, but 
hours of labor and the proportion of apprentices to be em- 
ployed in the designated industries. The decisions arrived at 
by these boards are binding on the whole trade, and can be 
reversed only by the Supreme Court. Under this system, ap- 
plying now to more than one hundred trades, minimum wages 
both for time and piece work have been established and maxi- 
mum hours of employment prescribed. The available evidence 
indicates that conditions in the sweating trades have been 



574 



LABOR LEGISLATION 



other 
Remedies 
Advocated 
and Con- 
clusion. 



materially improved, and that, incidentally, home work in 
certain trades has been rendered unprofitable. Of course, one 
effect of the change has been to increase the number of persons 
in the colony who are dependent on public charity, but the 
exclusion of these incapables from the ranks of the employed 
is believed to have been good both for them and for the more 
efficient. In practice, New Zealand's system of compulsory 
arbitration has secured for many of the sweating trades wages 
and hours determined by judicial decree, and in the opinion 
of some persons the results of this method are even superior 
to those of Victoria's wage boards. The essential characteris- 
tics of both are that considerations of social expediency and 
general good are substituted for blind competition as the 
regulators of conditions of employment, and standards are 
fixed which insure to those who can obtain employment living 
wages and reasonable hours. The inefficient, who are " unem- 
ployable " under the new conditions, become objects for pub- 
lic charity, but experience seems to prove that the whole cost 
of their maintenance is less of a tax on the social organism 
than was their competition when they were allowed partly to 
maintain themselves. 

Both New Zealand's and Victoria's plans for solving the 
sweat-shop problem were until recently dismissed as too radi- 
cal by most American students of the evil. The further reme- 
dies that have been advocated for the system as it exists in 
the United States are additional restrictions on immigration, 
more rigid sanitary regulations and a provision that all gar- 
ments made in tenement houses shall bear a ' ' tenement-made ' ' 
label as a warning to consumers that they are buying sweat- 
ers' products. There is little question but that these changes 
in the law, coupled with provisions for more rigid enforce- 
ment, would cause improvement, but it is doubtful whether 
the evil can be corrected by such simple means. It is a sig- 
nificant fact that after a most careful study of the sweating 
evil the British Parliament in 1909 passed a Trade Boards 
Act copied closely after the system of Victoria and providing 
for the extension of the plan to other trades than the four 
to which it was made immediately to apply. A Massachusetts 
Commission recommended a similar plan for that state and in 



REGULATING DANGEROUS TASKS 575 

1912 an act was passed empowering employers and employees 
to organize wage-boards. That belief in this remedy for un- 
duly low wages is taking strong hold on American public 
opinion was illustrated by the fact that Oregon, on the other 
side of the Continent, passed a more sweeping Minimum Wage 
Board Act in the following year (1913). Meantime Ohio has 
inserted in her constitution (1912) a provision permitting 
such legislation. If successful boards are organized the next 
step will no doubt be to make their findings as to the wages 
that should be paid mandatory on all trades deemed to re- 
quire them in states like Massachusetts which have not given 
them mandatory powers. This is the only remedy which 
strikes directly at the root of the evil. If other plans fail 
it must in time be adopted. 

§ 331. Besides the sweating trades there are others which Dangerous 
require special regulation on the ground that they are dan- Trades, 
gerous to life or health. All manufacturing industries which 
use power machinery are dangerous to a certain extent, and 
experience has taught the wisdom of requiring that revolving 
machinery be fenced and that the cleaning of machines while 
in motion be either prohibited altogether or limited to adult 
workmen. In addition to these general regulations, which 
are now included in the factory laws of all progressive coun- 
tries, experience has shown the need of special restrictions on 
particular trades. Occupations connected with the cleaning of 
textile fabrics and the polishing of metals are peculiarly un- 
healthful, as are also those concerned with the manufacture 
of white lead and of many chemicals. In the transporting 
and mining industries the rate of mortality is very great and 
can only be kept do\^Ti by legal interference, since even such 
simple appliances as safety lamps and automatic couplers are 
introduced but slowly by employers unless their use is made 
obligatory. 

The United Kingdom has gone much further than any System 

of the states of the United States toward the adequate regu- o^ Regula- 

lation of dangerous trades. The present system of that coun- ^°^ ° * ® 

• , 1 T • . p . ^1 United 

try IS to vest large discretionary powers m reference to the jjinedom 

control of dangerous trades in the Home Secretary. Medical 

practitioners are required to report illness which they believe 



576 



LABOR LEGISLATION 



The 

Wisconsin 

Plan. 



Associa- 
tions 
Working 
for Labor 
Legisla- 
tion. 



to be due to unhealthful conditions of employment to the fac- 
tory inspectors, and the latter, so soon as they become per- 
suaded that a trade is dangerous and in need of special regu- 
lation, are required to bring the matter to the attention of 
the Home Secretary. That officer, if he deems it necessary, 
drafts, with the assistance of experts, rules calculated to meet 
the needs of the situation and sends copies of them to the 
employers who will be affected, with the request that they file 
their objections to them within twenty-one days. These are 
carefully considered, and revised rules are then issued which 
have the force of law unless vetoed by either House of Parlia- 
ment. The obvious merit of this system is the ease with which 
it adapts itself to changing industrial conditions. 

In the United States the constitutional principle that ad- 
ministrative officers may not be clothed with legislative power 
has been an obstacle to the adoption of a similar system. This 
principle is not absolute, however, and already one state — 
Wisconsin — has devised a plan, which the courts have upheld, 
for securing the flexibility of the English system. This is to 
prescribe in the law that work places and conditions of em- 
ployment shall be " safe " and to leave it to an Industrial 
Commission of three members to issue regulations declaring 
what guards, etc., are necessary to safety. As these regula- 
tions are subject to judicial review it has been held that no 
constitutional principle is violated by the plan. Wisconsin 
and seven other states also require physicians to report all 
cases of illness due to certain occupational diseases to the state 
departments either of labor or health, so a fund of informa- 
tion is gradually being collected as to the occupations for 
which special safeguards should be prescribed. 

As the National Child Labor Committee is leading the move- 
ment for better and more rigidly enforced child-labor legisla- 
tion, so the National Consumers' League and the American 
Association for Labor Legislation are leaders in the effort to 
secure better protection for women workers and for employees 
in dangerous and unhealthful trades. An interesting aspect 
of the work of the last association results from its affiliation 
with the International Association for Labor Legislation, 
whose befidquarters is at Basle, Switzerland, Through the 



WAGE LEGISLATION 577 

biennial congresses of this international organization, repre- 
sentatives from the sixteen state sections are brought together 
and steady, if slow, progress is being made toward more rigid 
and at the same time more uniform labor laws for all of the 
participating countries. 

§ 332. The subject of the legal regulation of labor is one Present 
of great complexity. Up to the present time a priori objec- State of 
tions to such regulations have delayed their introduction, and ^^J^^i° 
only gradually, as experience has demonstrated their useful- . , 
ness, have they been extended to situations which seem to re- united 
quire them. In the United States the notion that the legis- states, 
lative power should not be used to regulate hours and condi- 
tions of employment has been abandoned by most thoughtful 
persons, but the prejudice against any interference with 
wages, like that practised in New Zealand and Australia, re- 
mains nearly as strong as ever. There is, of course, good 
ground for this distinction. Hours and other conditions of 
employment affect directly the health and vigor of the work- 
ing classes; wages only indirectly. Moreover, workmen are 
less mindful of their own interest in connection wuth hours 
and sanitary arrangements than in connection with wages. 
Making all allowance for these considerations, many thought- 
ful persons still believe that, under certain circumstances, 
notably those found in connection with the sweating system., 
the regulation of wages must also be undertaken by the gov- 
ernment if serious evils are to be corrected. It is sometimes 
argued that the law cannot fix the rate of wages, but this is 
contrary both to reason and experience. The law cannot fix 
both wages and the number of persons who shall be employed 
at those wages, but it can declare that no one shall be em- 
ployed in given trades unless paid certain minimum wages, 
and enforce its decree. The result may be an addition to the 
number of dependents, who are " unemployable " at the 
wages fixed because too inefficient to earn them, but it may 
be better and cheaper for society to support such persons in 
some other way than to permit their competition to hold the 
wages of great sections of the population down to a starvation 
level. In order to mark off the dependent from other classes the 
state may find it necessary itself to fix a standard by which 



578 LABOR LEGISLATION 

the ability of the individual for independent self-support may 
be determined. Without undertaking to advocate the estab- 
lishment by law of standard or minimum rates of wages for 
the sweating trades, the author wishes to insist that there 
would be nothing in this policy inconsistent with the theory 
of wages that has been explained in these pages, and that it 
merits the same unprejudiced consideration as is now ac- 
corded by intelligent people to proposals for restricting the 
employment of children or women, or for requiring the use 
of safety appliances in connection with dangerous trades. 
Need of Iq the United States a serious obstacle to the progress of 

Uniformity ig^jjQj. legislation has been the inability of state legislatures 
T . , X. to agree upon uniform laws. Massachusetts has held an 
honorable place as a leader in factory legislation, but of late 
years proposals for a further restriction of hours have been 
met there with the objection that the cotton mills of the state 
were already carrying on a losing battle against the cotton 
mills of the South, which have been free from all but the 
mildest labor restrictions. Exaggerated as this objection 
often is, it points to the need of uniform labor laws, at least 
for neighboring states, and suggests the desirability of na- 
tional labor legislation. Massachusetts, the state which from 
its position of leadership has most keenly felt the absence 
of uniformity, adopted, in 1902, a concurrent resolution fa- 
voring an amendment to the United States Constitution which 
should empower Congress to enact uniform labor laws for 
the whole country. Another movement in the same direction 
was the creation, in 1883, of the Association of Officials of 
Bureaus of Labor of America, which has worked earnestly 
to secure uniformity in the factory regulations of the different 
states. The progress toward uniformity that has been made 
encourages the hope that its absence may be less cf a bar 
to improved labor regulations in the future than it has been 
in the past. 

REFERENCES FOR COLLATERAL READING 

The literature on labor legislation is of a somewhat technical 
character. *Sfimso7i, Handbook to the Labor Laws, is the standard 
work for the United States. More exhaustive is the Report of the 
United States Bureau of Labor on Labor Laws in the United States, 



REFERENCES 579 

which is brought down to date by the Bulletins of Labor of the same 
Bureau. Volumes V. and XVI. of the Report of the United States 
Industrial Commission contain digests of the labor laws of the United 
States and of foreign countries. Current labor legislation is described 
in the Bulletins of the International Labor Office and the American 
Labor Legislation Review. Discussions of the history and effects of 
labor legislation will be found in North, Factory Legislation in New 
England (against) and Whittelsey, Massachusetts Labor Legislation 
(for). A good statement of the arguments for child-labor laws is given 
in ^Murphy, The Case Against Child Labor and The South and Her Chil- 
dren, and Spargo, The Bitter Cry of the Children. The organ 
of the National Child Labor Committee is called The Child Labor 
Bulletin. An admirable presentation of the argument for short-hour 
legislation and review of the important American laws and decisions is 
*Goldmark, Fatigue and Efficiency. See also *Van Kleeck, Women in 
the Book-binding Trade and Artificial Flower Makers. 

The history of labor legislation in Great Britain is treated in von 
Plener, English Factory Legislation (1876), and *Hutchins and Har- 
rison, A History of Factory Legislation (1907). The laws now in force 
are given in Abraham and Burrows, The Law Relating to Factories 
and Workshops. The best books dealing with special topics are: 
*Mrs. Webb, The Case for the Factory Acts; *Black, Sweated Industry. 



CHAPTER XXXI 



PROFIT SHARING AND LABOR COPARTNERSHIP 



Subjects 
of Con- 
cluding 
Chapters. 



Defects 
of Wages 
System. 



Definition 
of Profit 
Sharing. 



§ 333. The industrial system which has been described and 
analyzed in the preceding chapters leaves much to be desired. 
Labor legislation has been proposed as a means of correcting 
some of the evils that bear with special hardship upon wage- 
earners, but other and more fundamental measures are widely 
advocated and merit sympathetic consideration. In these con- 
cluding chapters attention can be given only to those reform 
proposals which are in themselves most important or which 
have the largest number of supporters. These are Profit Shar- 
ing and Labor Copartnership, or Cooperation, discussed in the 
present chapter; Social, or Workingmen 's. Insurance, consid- 
ered in the next chapter ; and Socialism, discussed in Chapter 
XXXIII. In the concluding chapter the results of our an- 
alysis of the present industrial system and of different plans 
of economic reform are brought together in a brief survey of 
Economic Progress. 

§ 334. One defect charged against the present industrial 
system is that workmen, upon whose labor and fidelity the suc- 
cess of business undertakings so largely depends, receive no 
direct share of the profits. Wages constitute usually their 
sole compensation, irrespective of the gains of the enterpriser 
who employs them. Wage-earners are thus often without any 
direct incentive to contribute their maximum to the productive 
results. To remedy this situation various plans of profit shar- 
ing, gain sharing and other modified forms of wage payment 
have been devised. 

Profit sharing has been defined as an " agreement, freely 
entered into, by which the employee receives a share, fixed 
in advance, of the profits." Unless the agreement is made in 
advance the economic purpose of profit sharing, that is, giv- 
ing the worker an added incentive to be an efficient producer, 

580 



SLIDING-SCALE SYSTEM 581 

will be lost. On the other hand it is not to be understood 
that the exact amount to be paid is fixed in advance. It is 
of the essence of the plan that this should vary with the 
profits, and it may, therefore, fall to nothing should no profits 
result from the year's business. 

One of the simplest methods of profit sharing is that in Sliding- 
which wages are made to vary on a sliding scale with the ^^^^^ 
price of the product. In the mining and metal industries ^^ ^™' 
where frequent price changes compel frequent changes in 
wage-scales, if business is not to be entirely suspended be- 
cause no longer profitable, this system has been found to work 
fairly well. It lessens the danger of labor disputes, because 
in good times wages rise automatically without any action on 
the part of the wage-earners ; in periods of depression and 
low prices, on the other hand, it enables employers to reduce 
their expenses of production without incurring the hostility 
of their men. 

Although advantageous, under proper limitations, to both Need of 
employers and employees, this system is open to grave objec- Standard 
tions unless standard rates of wages are established as a mini- 
mum below which earnings are not to be depressed, no matter 
how low the price of the product may fall. In every branch 
of industry prices are subject to variation and tend at times 
to fall below the normal expenses of production. The force 
which is relied upon to restore them at such periods is the 
unwillingness of enterprisers to continue production at a loss. 
Under the sliding-scale system, wages, a principal item among 
the expenses of production, fall as prices fall. The conse- 
quence may be that enterprisers can still produce at a profit 
even when the price is too low to afford a fair return to wage- 
earners. Under such circumstances the force relied upon to 
restore prices is removed and they may for some time remain 
below the level which permits a fair competitive return to 
all parties. A sliding-scale method of remuneration, which 
has not as its basis minimum wages, is thus a menace to the 
permanent well-being of the wage-earning class. 

Another objection to the sliding scale is that it assumes 
a constancy of relation between the price of the product and 
the amount of the profits that does not in fact exist. Thus, 



Minimum 
Wage. 



582 PROFIT SHARING; LABOR COPARTNERSHIP 



Limited 
Applica- 
tion of 
Sliding- 
scale 
System. 



Simple 
Profit 
Sharing 
and 

Circum- 
stances 
Limiting 
its Ex- 
tension. 



anthracite coal-mine owners in the United States objected 
to the application of the system to that industry by the award 
of the Strike Commission already referred to (Section 316) 
on the ground that their expenses of production were grow- 
ing each year heavier as the mines grew deeper, and that 
higher prices in the future would be necessary to cover these 
rising expenses, and would, consequently, give rise to no fund 
that could be shared with their emplo^^ees. "Whether this 
position was justified in this particular case or not, there can 
be no doubt that changes in prices are too inaccurate indices 
of changes in profits to permit the extension of the sliding- 
scale system to many branches of business. 

§ 335. Another method of sharing profits is for the en- 
terpriser to appraise his own services as worth a certain 
wages-of-management and to agree to distribute all profits 
above this sum to his employees — including himself as salaried 
manager — in proportion to the Avages which they respectively 
receive. Such a distribution of profits, if fairly carried out, 
offers a great incentive to all employees to contribute their 
maximum to the success of the business. For small establish- 
ments, in which the relations between the employer and em- 
ployee are close, this system can be maintained to the mutual 
advantage of all concerned. There are certain obvious limita- 
tions, however, on its wide extension among large corporate 
enterprises. In the first place profits depend often on condi- 
tions which the workers in the particular establishment can- 
not in the least control. Some change in demand or some 
increase in outside competition may force prices down to a 
point that entirely wipes out profits, though production is 
carried on as efficiently or even more efficiently than in years 
of large gain. Unless the profit sharers have implicit faith in 
their employers, a mental attitude toward large corporate em- 
ployers which is unfortunately not common, failure to receive 
any share of profits in consequence of low prices, when pro- 
duction is seen to be going on with great efficiency, will almost 
certainly give rise to ill-feeling. This is the defect which has 
caused many profit-sharing plans, introduced in perfect good 
faith by broad-minded employers, to be abandoned after a few 
years' trial. 



PROFIT SHARING AND INSURANCE 583 

Another disadvantage connected with sharing profits among its Limi- 
all wage-earners in proportion to wages is that this is unfairly tations. 
generous to the employee who makes no effort to increase his 
efficiency and not generous enough to the man who responds 
by working more diligently and giving more thought to ways 
in which he can economize the materials or prevent injury 
to the tools or machines of the employer. At best the con- 
nection between the work of a single employee in a large 
establishment and the year's profits is slight. Some employees 
may be spurred on to greater attention to the employer's 
business by the promise of a fractional share of the profits; 
many will think a change in their mode of work can make no 
appreciable difference and will remain indifferent. It is 
chiefly because of this failure of profit sharing to justify 
itself on economic grounds, that comparatively few employ- 
ers have been willing to incur the trouble and expense of 
introducing it in the simple form of a periodic division 
of profits above their own wages-of-management among all 
employees. 

§ 336. In addition to the forms of profit sharing described Profit- 
above, many of a more complex character have been tried and sharing: 

are still in operation. A common form in France, a country 

'^ . ance 

which has been prolific of profit-sharing experiments, is one gghej^eg^ 

which credits a certain percentage of the profits of each year 
to a benefit fund out of which old age pensions, sickness al- 
lowances or other sums are paid to employees who continue 
in the employ of the firm and comply with certain require- 
ments. Such plans are often well-intentioned but they nearly 
always have more to recommend them to employers than to 
employees. They are highly paternalistic and while the as- 
sumption on which they rest that employers are more far- 
sighted than their employees and can improve the material 
welfare of their men by forcing them to become sharers in 
funds for old age, illness, etc., which, though much needed, 
they will not provide for themselves, is often true, they none 
the less are resented by self-respecting and independence-lov- 
ing workers. Moreover, their tendency to attach the workman 
to his employer, since by changing to another employer he 
loses his claim on the benefit fund, though a merit from the 



584. PROFIT SHARING; LABOR COPARTNERSHIP 



Profit 
Sharing 
Through 
Stock 
Owner- 
ship. 



point of view of the employer, is a serious defect from the 
worker's viewpoint. Wage-earners know from experience that 
their ability to improve their condition depends often on a 
willingness to change from employer to employer. Any device 
which impedes this free movement in pursuit of higher wages, 
shorter hours or other benefits is very properly viewed by 
them with a good deal of suspicion. 

Another and less objectionable mode of profit sharing that 
is designed to attach a worker to his employer is that of sell- 
ing shares of stock to employees on favorable terms and pay- 
ing them, so long as they remain in the same employment, 
in addition to the dividends to which they are entitled as 
share-holders bonuses in proportion to the number of shares 
so acquired which they continue to own. This is the plan 
introduced a few years ago by the United States Steel Cor- 
poration as a means of attaching employees to the Corpora- 
tion. It has been severely criticized by labor leaders because 
at the same time that the Corporation was making this and 
other liberal provisions for its employees as individuals it was 
rigidly suppressing every effort that they made to form labor 
organizations. The two policies together are indicative of the 
paternalistic attitude which this and many other large Ameri- 
can corporations are disposed to assume toward their em- 
ployees. This attitude is often well-meant but the measures 
to which it leads can hardly be expected to contribute to the 
long-run best interests of American workmen. Much more 
important from the point of view of the wage-earner than 
plans which add somewhat to his yearly income are plans that 
increase his independence, self-respect and all around human 
efficiency. 

The progress of profit sharing the world over is fairly well 
illustrated by the following facts relating to the United King- 
dom: Of the 299 schemes which are known to have been 
launched in that country from 1870 to 1912, 163, or more than 
one-half, were abandoned. Moreover, of the 133 still in opera- 
tion, of which 33 were of gas companies, 81 were started since 
1900 and 62, or nearly one-half, since 1905. The average 
" bonus " or share of profits paid out under these different 
schemes in 1911 represented an addition to the wages of par- 



GAIN SHARING 585 

ticipants of 5.5 per cent, which happened to be also the aver- 
age addition to wages for the longer period, 1901-1911. 

§ 337. Because of the failure of simple profit sharing to Other 
meet fully the desires of employers and employees for some ^^^^s- 
system that will serve to harmonize their conflicting interests, 
the most important recent experiments having in view a modi- 
fication of the wage system have been in somewhat different 
directions. On the one hand, so-called ' ' efficiency engineers ' ' 
have devised an ingenious system known as " gain sharing." 
On the other, those whose interest in the labor problem is 
more broadly social have sought to substitute for profit sharing 
schemes of outright labor copartnership or cooperation. 

The most serious limitation on profit sharing from the point Gain 
of view of the employer is the weakness of the appeal it makes a^^ng. 
to the individual employee. Gain sharing corrects this defect 
by addressing itself directly to the individual and making 
its results depend simply and solely on his efficiency as a 
producer. Its forerunner in the gradual evolution of wage 
systems was the " piece wage." Under the piece system wages 
are based not on the hours of work but on the number of 
pieces of product that are turned out. This is a satisfactory 
system to the employer and has been used wherever the work 
was of such a character that the product of each individual 
worker could be separately measured. It has been less satis- 
factory to employees because under it, as they have learned 
by painful experience, employers are only too apt to cut down 
the piece rate as they increase their efficiency, so that in 
season and out of season their wages will average no more 
than under the more easy-going day-wage system. Gain shar- 
ing seeks to present the system of piece-payment in a form 
that will be acceptable to the workers and at the same time 
highly advantageous to the employer. At its basis is a stand- 
ard wage agreed to in advance and paid as a minimum to 
all workers irrespective of their outputs. Experts are em- 
ployed to determine the output that an average workman 
exerting himself with average diligence should turn out in 
each branch of production in a normal day. The standard 
wage divided by the normal output fixes the normal piece 
price for each branch of production. The " share of gain " 



586 PROFIT SHARING; LABOR COPARTNERSHIP 

which the employer introducing the system offers to his em- 
ployee is the whole, or an agreed part, of this normal piece 
price for every piece above the normal output which the 
worker can add to his product. The worker who is unable 
or unwilling to add to his product continues to receive the 
same wage as before. On the other hand, the ambitious and 
capable worker has a direct incentive to increase his output, 
an incentive which in practice, where the system has been in- 
troduced, has often led to astonishing results, such as a pre- 
mium equal to two, three or even six times the standard 
wage. 
Its Ad- jT'or employers who are disposed to vary the wage system 

vantages ^^ purely economic and self-interested grounds, the system 
advantages ^^ ^^^^ sharing has great advantages over any system of 
profit sharing that has yet been devised. Its success explains 
its widespread use in American mills and factories in con- 
nection with processes where the product of each worker can 
readily be measured. If introduced and carried out in per- 
fect fairness and good faith, it also has much to recommend 
it to employees. The basis will not be changed, as a piece 
rate may be, since it is part of the agreement that the rate 
which has been carefully determined at the outset will be 
maintained for two, three or even five years, or until the 
process itself is changed. The worker is not tied to his job, 
since his gain comes to him as regularly as his weekly wages 
and he loses nothing by changing to another employer who 
offers him better terms. Finally, under the system capable 
workers are able to add substantially to their earnings, often 
by merely giving closer attention to their work without in- 
creasing appreciably their exertions. Notwithstanding these 
advantages, gain sharing, like profit sharing, has been opposed 
by labor leaders. Their chief objection to it is that it tends 
to reconcile wage-earners to the current rate of wages, their 
remuneration, or the remuneration of the abler of them, com- 
ing in part from the supplementary premiums they receive, 
and to make them less persistent and aggressive in demanding 
better conditions of employment. Gain sharing undoubtedly 
has this tendency, but, on the other hand, it must be remem- 
bered that wages cannot always be advancing, and that a sys- 



COOPERATIVE STORES 587 

tern which serves to remunerate the workers fairly for the 
added product due to their increasing efficiency may supply 
in the larger aggregate earnings of wage-earners a better 
basis for an advance in the standard rate than if day wages 
alone were received. The system has not been in operation 
long enough to justify any confident conclusion, but if backed 
by a strong and wisely-led union, wage-earners would seem 
to have opportunities to improve their condition under it 
which the ordinary wage-system does not afford. 

§ 338. Labor copartnership, or cooperation, goes a step fur- Labor 
ther than profit or gain sharing, since it undertakes to dis- Copartner- 
pense with the employer altogether. For him is substituted ^ ^^' °^ 
a committee representing the workers, or, in distributive or 
consumers' cooperation, the purchasers, and chosen by them to 
direct the undertaking for their mutual benefit. Three differ- 
ent forms of labor copartnership may conveniently be distin- 
guished, distributive or consumers' cooperation, cooperative 
credit or banking and producers' cooperation or labor copart- 
nership proper. The first aims to enable consumers to secure 
the commodities they require at less expense by eliminating 
the profits of middlemen in retail and even in wholesale trade. 
The second undertakes to bring capital within the reach of 
borrowers, such as small farmers and traders, whose situation 
prevents them from securing advances readily from ordinary 
commercial banks. Finally, the third proposes to displace 
the profit-receiving enterpriser or the hired manager of a 
corporation in the operation of farms, mines, factories and 
other productive undertakings by persons chosen and paid 
by the workers themselves, the workers themselves supplying 
the capital and taking the risks of the enterprise. Up to the 
present time labor copartnership has succeeded best in connec- 
tion with trade, and especially retail trade. A brief descrip- 
tion of its development in Great Britain, where it has en- 
joyed widest extension, will serve to introduce a discussion 
of its strong and weak features. 

§ 339. Successful labor copartnership in England may be Cooperative 
said to date from the year 1844, when the famous Rochdale Stores, 
cooperative store was founded by the twenty-eight " Rochdale 
pioneers." In this store, which has become a model for 



588 PROFIT SHARING; LABOR COPARTNERSHIP 



Success 
of the 
Rochdale 
System. 



thousands of similar cooperative stores in all parts of the 
world since, the needed capital was obtained by the issue of 
shares of low par value ($5.00) to prospective purchasers 
from the store, with the understanding that a fixed return 
of five per cent should be paid on the capital subscribed by 
the shareholders before any profits should be divided among 
the cooperating purchasers. Democratic control of the store 
was secured and preserved by crediting shares to any one who 
desired them on the payment of one-twentieth of the par 
value in cash, the balance being paid in installments out of 
the share of profits credited on the purchases of such share- 
holder, by limiting to two hundred the number of shares that 
could be owned by a single individual, and by maintaining 
the principle, " one man, one vote," so that the one-share 
member should have just as much voice in the management 
of the store as the owner of many shares. The prices charged 
at the store were the prices current in the locality. At the 
end of every quarter any profit made over and above all of 
the expenses of conducting the business, including interest 
on the share capital, was divided among the purchasers from 
the store i7i proportion to the amount of their purchases. 
Thus the purchasers, not the share-holders, whose return re- 
mained fixed at five per cent irrespective of the profitableness 
of the business, were the beneficiaries as the business grew 
and prospered. At the time of their purchases they were 
guaranteed that the quality of the goods offered would be 
exactly as represented. At the end of each quarter they re- 
ceived a dividend on the amount of their purchases, which 
would make the prices they actually paid substantially lower 
than in stores conducted for profit. 

From a very small beginning the Rochdale store, guided 
by these principles and conducting all of its operations on a 
cash basis, has grown to be a great enterprise, with thousands 
of members and hundreds of thousands of capital and of an- 
nual sales. It has even launched out into other fields than 
retail trade, as several branches of manufacturing are now 
conducted to supply the commodities that are to be sold 
through the store and its branches. These manufacturing de- 
partments are administered by the same committee which 



tive Whole- 
sale So 
cieties. 



COOPERATIVE WHOLESALES 589 

manages the store on behalf of its share-holders and purchas- 
ers and do not, therefore, present an example of true labor 
copartnership. The employees in them receive wages just 
as do the employees of an ordinary manufacturing cor- 
poration and have no voice in the management of the busi- 
ness. It is a notable fact that English cooperative stores of 
the Rochdale type can command on their managing commit- 
tees men of such great business ability that they have been 
able to conduct successfully not only the stores confided to 
their management but also many mills and factories. These 
should not be cited, however, as examples of successful pro- 
ducers' cooperation or labor copartnership, so long as the 
cooperative relation does not include their employees, but only 
the purchasers from the stores for whose benefit they are car- 
ried on. 

The remarkable success of cooperative retail stores modeled Coopera- 
after the Rochdale experiment emboldened the leaders of the 
movement to establish in 1864 the English Cooperative 
Wholesale Society for the purpose of buying jointly for re- 
tail cooperative stores on more favorable terms than they 
could secure by dealing with ordinary wholesalers and job- 
bers. The Wholesale was a success from the very start. By 
1910 it had a membership of over 1000 retail societies and 
a capital of nearly £2,300,000, while its sales amounted to 
more than £26,500,000 and its profits to nearly £462,500. From 
buying its goods by wholesale from other manufacturers the 
Society soon passed to manufacturing for itself upon an ex- 
tensive scale. It is now engaged in the manufacture of bis- 
cuits, cocoa, butter, preserves, sweets, boots and shoes, soap, 
candles, woolen goods, ready-made clothing, flour, lard, fur- 
niture, shirts, mantles, underclothing, etc., and it does its 
own printing and that of many of its members. In the man- 
agement of its manufacturing establishments, it, too, has pur- 
sued the policy of the ordinary business corporation. It pays 
good wages, but it accords to its employees neither voice in 
the direction of the enterprises in which they are engaged 
nor share in the profits. This fact must not be overlooked 
when the success of the English Wholesale Society is cited 
as proof of the possibilities of labor copartnership. 



590 PROFIT SHARING; LABOR COPARTNERSHIP 



The 

Scottish 

Society. 



Advantages 
of Dis- 
tributive 
Coopera- 
tion. 



Eeasons 
for Its 
Slow De- 
velopment 
in the 
United 
States. 



In 1868 the Scottish Cooperative Wholesale Society was 
launched on the model of its English predecessor. Its man- 
agers two years later introduced a profit-sharing feature, 
which has been retained ever since and to which the superior 
success of the Scottish Society is by some attributed. In 1910 
the Scottish Society had nearly 300 members and a capital of 
over £1,000,000; its sales aggregated over £7,400,000 and its 
profits nearly £275,000. When it is remembered that the 
population of Scotland is less than one-seventh that of Eng- 
land the significance of these figures is evident. 

With the help of the wholesale societies cooperative stores 
have developed in Great Britain to a point where they are 
said to supply the needs of approximately one-seventh of 
the people. Not only do they reduce the cost of living for 
their customers but they encourage them in habits of thrift, 
independence and self-respect. By insisting on cash payments 
and serving as a means of safe investment they promote 
thrift. By impressing their share-holders with the sense that 
they are partners in a successful business enterprise they 
foster a spirit of independence and an intelligent appreciation 
of the conditions necessary to business success. Finally, self- 
respect and a sense of responsibility are the natural conse- 
quences of the relation in which the cooperators stand to 
" the store." Thus it was no exaggeration for Lord Rose- 
bery to declare to a cooperative congress a few years ago that 
" cooperation constitutes nothing less than a state within a 
state." 

In no other country has distributive or consumers' coopera- 
tion been carried so far as in Great Britain, and, on the 
other hand, in no other progressive countrj^ has it been so 
little developed as thus far in the United States. The back- 
wardness of the United States in this field has been due to 
a number of different causes. The better organization of 
retail trade in American cities and towns has offered less 
encouragement to promoters of cooperative stores. The ab- 
sence of a settled and homogeneous industrial population has 
been another obstacle. With their higher wages and more 
extravagant habits American wage-earners have been less will- 
ing to give the necessary thought and trouble to the manage- 



COOPERATIVE BANKING 591 

ment of cooperative stores for the sake of the petty economies 
to be effected through them. Finally, the less advanced state 
of the labor movement has caused the leaders who might have 
devoted themselves to advocating cooperative experiments to 
expend all their energy in striving to organize their fellows 
in successful trade unions. With the passage of time some 
of these reasons are certain to lose their force, and as they 
do a development of distributive or consumers' cooperation 
paralleling that of Great Britain may be confidently expected. 
Though much to be desired, the importance of such a move- 
ment should not be exaggerated. It will reduce the cost of 
living and improve the characters and capacities of the wage- 
earners who take part in it, but in essentials it will leave the 
present relations between employers and employees, capitalists 
and wage-earners, but little affected. 

§ 340. Cooperative credit or banking has had its highest Coopera- 
development in Germany, where it was started about 1850, *^^* Bank- 
and from which it has spread to all countries. The cooperative ^ ^* 
banks or " credit unions " are sometimes incorporated but 
usually they are merely partnerships in which fifty or more 
small farmers and tradesmen are partners. The essence of 
the plan is that the cooperators become jointly responsible 
for all of the obligations of the bank. Its funds are derived 
from the subscriptions for shares and the deposits of the 
members and from loans by commercial banks or, in some 
countries, from the government. These are loaned in small 
amounts to members to enable them to make improvements 
in their farms or extensions in their businesses that have 
been approved by the loan committee, and so careful and 
judicious are these committees, the members of which are, 
of course, themselves small farmers or traders of the better 
class, that losses from loans rarely occur. Like the building 
and loan associations organized by persons of limited means 
to enable them to acquire homes, which have been so success- 
ful in the United States, these people 's banks have been highly 
successful in the European countries in which they have been 
tried and in which local conditions have been such as to 
create a need for them. Up to the present time conditions 
in the United States, owing to the constant shifting of popu- 



592 PROFIT SHARING; LABOR COPARTNERSHIP 

lation and the comparative ease with which the American 
farmer has secured from his own profits the capital needed 
for further improvements, have not been favorable to coopera- 
tive banking. As the country becomes more densely populated, 
however, this form of cooperation will serve a useful purpose 
as it already has in Europe. And as in Europe, so in the 
United States, it will not only assist persons of limited means 
to secure control over the larger capitals they require but it 
will prove of great educational value to all of those who take 
part in it. 
Producers' §341. Producers' cooperation, or labor copartnership, 
Coopera- though the first form to develop, has in few instances been 
able long to overcome the many obstacles which it inevitably 
encounters. The essential features of the system are that 
the workers be voluntarily associated together under the di- 
rection of a committee or manager chosen by themselves and 
that they supply the capital, either from their own savings 
or by borrowing on their combined credit. As in consumers' 
cooperation, so in producers' cooperation, adherence to the 
principle, one man, one vote, is the indispensable condition 
to keeping the management democratic. If once the contrary 
principle that voting power shall be in proportion to the 
amount of capital invested is admitted, the cooperative enter- 
prise soon becomes indistinguishable from an ordinary busi- 
ness corporation. To attract capital under these limitations 
a certain fixed return, corresponding to the current rate of 
interest, on fairly safe investments, must be promised to those 
who supply the capital. Often wages and salaries are also 
agreed upon in advance among the copartners to be paid 
out of the proceeds of the business before the profits are 
calculated. When this is done any profits left after these ex- 
penses of production have been met are usually divided among 
all of the copartners in proportion to the wages which they 
receive. When the enterprise is small and of such a char- 
acter that all of the copartners are men of about the same 
earning capacity, no wages may be paid, and the whole return 
above the replacement fund and the charges for rent and 
interest may be divided equally among the copartners. Sat- 
isfactory as this last arrangement is from the point of view 



PRODUCERS' COOPERATION 593 

of equality, it is obviously applicable to a very limited num- 
ber of industries. In nearly all, as production is now organ- 
ized, different grades of labor are required and unless different 
shares of the profits are assigned to skilled and unskilled 
workers, it will be difficult to induce skilled workers to re- 
main copartners. In fact, even when larger shares are as- 
signed to the more highly skilled participants, the limitation 
of their voting power by the one-man-one-vote principle is 
often felt to be a hardship. Many cooperative experiments 
have degenerated into ordinary business partnerships or cor- 
porations because the more intelligent and skillful workers 
in them have decided that it is easier and more profitable to 
hire the manual workers they require than to retain them as 
copartners in the enterprise. 

Producers' cooperation, or labor copartnership, has sue- Conditions 
eeeded best among farmers and fruit growers who combine *° ^^^ 

• Success 

to maintain cooperative dairies, to store and market their 
products, and for other purposes closely related to their pri- 
mary business and yet calling for more capital, skill and at- 
tention than they can well afford individually to devote to 
them. Labor copartnership has also succeeded in skilled 
crafts, such as cooperage, bookbinding, etc., in which relatively 
little capital is required. It has had least success in connec- 
tion with manufacturing and mining enterprises, except, as 
already explained, when these have been managed not co- 
operatively but as offshoots of cooperative stores. It is neces- 
sary merely to compare the business of running a factory 
with that of keeping a store to understand the reasons for 
the little progress that has been made by true labor copartner- 
ship. 

Cooperative stores are able to succeed because the service Contrast 
they render is of a very simple character. They are sure of Between 
their customers. They may insist on cash payments and in . ^^^^^f'J"^ 
this way avoid losses through unwise extensions of credit. ^^^ ^^ 
They need little initial capital and can usually obtain this shops and 
without difficulty from the savings of workmen themselves. Factories. 
Through the growth of cooperation in retail trade, the "co- 
operative wholesale " is made possible and even the develop- 
ment of manufacturing departments to supply products for 



594 PROFIT SHARING; LABOR COPARTNERSHIP 

the retail stores. The market for these products is assured 
and the capital required for plant and machinery can be 
gradually saved out of the undivided profits of the coopera- 
tive stores. It is quite a different undertaking for a number 
of wage-earners to join together in a cooperative manufactur- 
ing enterprise, the capital for which must come mainly if not 
entirely from their own savings and the products of which 
must be disposed of in the general market. Successful man- 
ufacturing requires intelligent and progressive management 
and large capital. Workmen rarely appreciate the importance 
of the first and are not in a position to supply the second. 
With many men of different tastes, ideas and capacities work- 
ing together there is almost certain before long to be a dis- 
agreement in regard to the business management. As sub- 
mission to the judgment of the salaried manager must, in 
the nature of the case, be entirely voluntary, disagreement 
is only too apt to lead to insubordination and disruption. 
Even when capable managers are secured, therefore, efficient 
control of a labor copartnership can only under exceptional 
circumstances be maintained for any great length of time. 
But the chances are strongly against securing efficient man- 
agers because the workmen partners usually object to pay- 
ing sufficiently high salaries. The difficulties in the way of 
securing capital for enterprises which require — as did the 
manufacturing business of the United States in 1909 — in- 
vestments averaging $2400 for every person employed in 
connection with them, are even more serious. Few workmen 
have so much to invest, and those who have are likely to 
be particularly timid about risking it in untried fields. On 
the other hand, few capitalists care to lend their savings to 
labor copartners, 
limitations § 342. Profit sharing and labor copartnership, or coopera- 

„, . tion, have both been urged by enthusiasts as means of solving 

Sharing -, , , ■, 1 -, ^ 

and ^"^ labor problem, but m actual practice neither system has 

Labor Co- yet justified the claims made for it. Profit and gain sharing 
partner- ,at their best are merely means of adding somewhat to wages 
sliip- and even if given the widest extension of which they are ca- 

pable would still leave most wage-earners mainly dependent for 
their welfare on the standard rates of wages they could com- 



THE FUTURE 595 

mand. Moreover, they are frequently used as weapons to pre- 
vent wage-earners from organizing or from shifting to other 
employers to better their condition and when so employed 
the additions which they make to wages are dearly bought. 
They leave industrial society divided into two opposing par- 
ties, employers and employees, and since they fail to remove 
the chief ground of opposition between them, differences of 
view in regard to wages, hours and other conditions, they 
cannot furnish an enduring basis for industrial peace and 
good will among men. 

Labor copartnership, or cooperation, is free from some of 
the objections that may be brought against profit sharing, 
but has limitations of its own that are equally serious. In 
the form of consumers' cooperation it may do much to reduce 
the cost of living and to moralize trade, but it leaves the 
labor problem but little affected. Cooperative credit is in 
turn valuable for small farmers and business men rather 
than for wage-earners. Producers' cooperation, or labor co- 
partnership, offers much to workingmen but up to the pres- 
ent time the obstacles to its success have proved too formi- 
dable to be overcome except in a few instances. ' ' Moreover, ' ' 
as has been well said,* " associations of producers are essen- 
tially antidemocratic in structure, and are, in essence, merely 
profit-seeking societies. Their interests are directly opposed 
to the interests of the community as a whole, and if they 
once became general, society would either be divided into 
small, self-governing circles of producers engaging in bitter 
competition within industries, or would be split into a series 
of monopolies, each controlling a certain industry and each 
representing to all of the others the antagonistic interests of 
the producer as opposed to the consumer." 

The opposition between producer and consumer is, of course, Conclusion 
inevitable, and the above description of the goal to which ^^ ^° 
labor copartnership logically leads is no conclusive argument 
against it. In fact, the last situation depicted, that is, groups 
of cooperating producers monopolizing different branches of 
business, with the addition of a government strong enough and 
intelligent enough to protect consumers against unreasonably 
* Adams and Sumner, Labor Proilems, p. 430. 



596 PROFIT SHARING; LABOR COPARTNERSHIP 

high prices, is the ideal to which some of the most advanced 
advocates of labor copartnership consciously look forward. 
As an ideal this seems more practicable than that of the gov- 
ernment ownership and operation of all industries which 
socialism proposes, while it is certainly superior to the present 
system of unregulated and often wasteful competition. Signs 
are not lacking that in the railroad industry and other mo- 
nopolistic public service industries whose charges are subject 
to governmental control the relations between the employing 
corporation and the workers are gradually developing along 
copartnership lines. Investors who supply the capital, as 
they are largely insured against risk of loss, are more and 
more forced by conditions to content themselves with a fixed 
rate of return on their investment and to see any surplus 
earnings devoted to improving the plant so as to render better 
service to the public or to paying higher wages. Formal 
recognition has not yet been given to the right of the workers 
to a voice in the management of the business, but without 
such formal recognition in actual fact through their organiza- 
tions they have more and more to say as to how the labor 
side of the business shall be conducted. Outright labor co- 
partnership subject to rigid governmental control thus does 
not seem an impossible or even a very distant goal for public 
service industries. The future is much less clear for labor 
copartnership in connection with industries that heretofore 
have been actively competitive, but time may show that many 
of them, too, can be more economically and efficiently carried 
on as giant monopolies and in that case private, unregulated 
operation will also certainly give way to a certain amount 
of labor copartnership in management, and government regu- 
lation. 

Labor copartnership is an admirable substitute for the 
competitive system whenever and wherever it can succeed. It 
appeals to higher motives than mere self-interest and its in- 
fluence upon the characters of those who engage in it is 
broadening and ennobling. As time goes on its extension to 
ever wider fields may be confidently hoped for, but such ex- 
tension must necessarily be gradual. All of the conditions 
upon which its successful operation depends — a fuller ap- 



REFERENCES 597 

preciation by workmen of the value of the services of busi- 
ness managers and organizers, a willingness on their part to 
take orders from bosses of their own choosing, and finally 
an accumulation by them of capital — must be of slow growth. 
This does not lessen in the least the importance of labor co- 
partnership as a plan of economic reform, but it shows the 
extent to which the present industrial system is adjusted to 
the character and attainments of the average man of the 
present day and emphasizes the truth that it can be displaced 
only as the average man is raised to a higher plane of thought, 
feeling and efficiency. 

REFERENCES FOR COLLATERAL READING 

Oilman, Profit-sharing Between Employer and Employee and a Divi- 
dend to Labor; *8chloss, Methods of Industrial Remuneration; Board 
of Trade Report on Profit-sharing and Labour Co-partnership in the 
United Kingdom (1912); Jones, Co-operative Production in Great 
Britain, 2 vols.; *Fay, Co-operation at Home and Abroad (1908); 
*Wolf, Cooperation in Agriculture; *Ford, Cooperation in New Eng- 
land; Annals of the English Co-operative Wholesale Society; Proceedings 
of the Congresses of the International Co-operative Alliance; Year Book 
of International Co-operation (1913); * Adams and Sumner, Labor 
Problems, Chap. X. 



CHAPTER XXXII 
SOCIAL INSURANCE 

Evils to be § 343, Among the reform measures that have attracted 
Guarded public attention in all progressive countries in recent years 
none are more worthy of the thoughtful consideration of 
students of economics than plans of social, or workingmen's, 
insurance. Modern wage-earners are not only exposed to 
misfortunes which other classes escape, but for them the or- 
dinary misfortunes to which we are all liable have a signifi- 
cance, because of the resulting loss in earning power, which 
they have not for persons with independent incomes. The 
misfortunes for which social insurance attempts to provide 
are : industrial accidents, illness, premature death, invalidity 
through old age, and involuntary unemployment. Economists 
until of late have very generally held that the only safe way 
to make provision against these contingencies was through 
individual saving. Their writings have abounded with lauda- 
tions of the virtues of thrift and forethought and demonstra- 
tions that without them no great progress in average well- 
being could be hoped for. The importance of these virtues 
is so obvious that it is only in the recent past that the ques- 
tion has seriously been considered whether too much promi- 
nence has not been assigned to them. The trouble with ex- 
clusive reliance upon them as means of providing against 
accidents, illness, premature death, old age and unemploy- 
ment, is that such saving has proved in practice to be quite 
inadequate for the purpose. The proportion of wage-earners 
who accumulate savings has remained small, even in countries 
of relatively high wages, like the United States. Moreover, 
individual savings, even on the part of thrifty and ambitious 
wage-earners, are constantly liable to be swept away by one 
of these misfortunes if the disability to which it gives rise 
is prolonged. Few wage-earners are able to save enough to 

598 



ARGUMENT FOR INSURANCE 599 

carry them through a whole year's loss of wages. Even fewer 
accumulate enough to make adequate provision for their fam- 
ilies when death overtakes them prematurely or for themselves 
when it is their fate to linger on many years after their ability 
to command wages has departed. The usual result of a pro- 
longed stoppage of wages is thus dependency on public or 
private charity with all of the suffering, humiliation and 
loss of ambition and of efficiency which this entails. 

Since these misfortunes for the individual wage-earner are Argument 
risks rather than certainties,* the economical way to provide for In- 
against them is through some system of insurance. If all surance. 
wage-earners of a given group could be induced to contribute 
to a common insurance fund relatively small savings would 
suffice to supply incomes to the victims of these misfortunes 
during their resulting disability. The difficulty is that most 
wage-earners are unable or unwilling to make the necessary 
provision even through the machinery of insurance. Influ- 
enced by the standards of those about them they assume the 
responsibilities of married life so soon as their wages suffice 
to meet the ordinary expenses of family maintenance. When 
children begin to come the demands upon their incomes for 
daily needs leave little or no margin for provision for the 
future. Thus it happens that so long as such provision is vol- 
untary, it is largely or entirely neglected for the sake of the 
more pressing wants for food, clothing, shelter and recrea- 
tion. Only the exceptional wage-earner carries any form of 
insurance beyond moderate burial insurance for himself or 
the members of his family. It is this situation that has led 
to the adoption of plans of social insurance. Since wage- 
earners will not and cannot afford to insure themselves against 
the risks to which they and their families are exposed, organ- 
ized society, it is maintained, must interfere to require them 
to make such provision and to add to the resulting insurance 
funds through appropriations from the public treasury and 
through enforced contributions from employers, who are espe- 
cially interested in the maintenance of a vigorous and efficient 

* Even invalidity from old age is a risk, since, according to American 
life tables, nearly two-thirds of those who pass the age of ten die 
before the age of seventy is reached. 



600 SOCIAL INSURANCE 

Definition v/age-earnrng population. Social ifisurance may thus he de- 
of Social fined as compulsory collective provision for the victims, and 
Insurance. ^^^^ families of the victims, of accidents, illness, premature 
death, disahility from old age and unemployment, regulated, 
if not actually administered, hy the government. 
Germany's § 344. Industrial accidents have been the first of these mis- 
Compulsory fQptunes to receive attention in most countries. The plans 

for providing for the victims of industrial accidents and their 
Insurance ^ ° 

System. families have taken three different forms. Germany, the pio- 
neer in this, as in most other fields of social insurance, adopted 
in 1884 the system of requiring employers to become mem- 
bers of mutual accident insurance associations. These asso- 
ciations levy assessments on their members sufficient to pro- 
vide funds from which to pay compensation in accordance 
with a prescribed scale to the victims of industrial accidents, 
or their dependents in case the accidents result in death. The 
management of these associations is in the hands of the em- 
ployers themselves but they are supervised by the German 
Imperial Insurance Office, to which appeal may be carried by 
wage-earners or their dependents when the compensation 
offered is considered to be inadequate. This arrangement for 
accident insurance supplements an arrangement for illness 
insurance created in 1883, and to lighten the burden imposed 
on employers compensation for accidents begins only with the 
fourteenth week of disability, provision for the victims of ac- 
cidents during the first thirteen weeks being made out of the 
illness insurance funds to which employees are compelled to 
contribute the larger share. The great merit of this system 
is that it gives German employers the strongest incentive to 
lessen to the greatest possible extent the frequency and seri- 
ousness of accidents. Since every accident means expense to 
the employers' associations, these bodies have taken the lead 
in organizing museums of safety, maintaining staffs of in- 
spectors to advise employers as to the latest safety devices 
and encouraging through prizes and other awards those of 
their members who show the lowest proportion of accidents 
in their plants. 

A second system of providing against industrial accidents 
was inaugurated by Norw^ay in 1894. In that country em- 



WORKMEN'S COMPENSATION SYSTEM 601 

ployers are required to pay premiums based on the number State 
and wages of their employees and the degree of hazard in Accident 
their industry into a state insurance fund, from which the "durance, 
compensation prescribed by the law is paid to the victims 
of accidents or their dependents. The merit claimed for this 
plan is that it results in an administration guided solely by 
reference to the best interests of the wage-earners affected. 
Since the state bears the expense of administration, it is also 
said to provide the compensation at a minimum of expense 
to employers. 

The third plan of accident compensation is the so-called ^^^ Work- 
Workmen 's Compensation system introduced by the United ^ 

^ "^ 1-1 pensation 

Kingdom in 1897. Under this plan employers are required gystem. 

to pay compensation in accordance with a prescribed scale to 
the victims of accidents in the course of their employment or 
their dependents, but are not required to prepare themselves 
to meet this disability in any particular way. If they desire, 
they may, of course, insure themselves against this liability 
in Employers' Liability Insurance companies and most of 
them do so, but they are under no compulsion to insure, and 
in case they become bankrupt those to whom they owe com- 
pensation have no protection against loss of the sums due 
them except that which belongs to them as preferred creditors. 
The Bierit claimed for this system is that it involves a mini- 
mum of governmental interference with the business of the 
employer. 

All three of these systems, one or other of which has now Argument 
been adopted by every important country of Europe, impose for Com- 
the expense of accident compensation upon employers rather pensation 
than upon the wage-earners themselves. The justification of 
this policy is that the loss to wage-earners resulting from the 
accidents of industry should be regarded as an expense of 
production which the employer should bear as he bears the 
other expenses of production and which, since the burden 
falls on all employers alike, he will be able normally to re- 
cover in the somewhat higher prices he will obtain for his 
goods. Moreover, responsibility for making safe the condi- 
tions under which industry is carried on must be placed 
squarely on the employer, if due regard is to be paid to the 



602 



SOCIAL INSURANCE 



Industrial 

Accident 

Insurance 

in the 

United 

States. 



proper protection of life and limb, and there is no way of 
accomplishing this more certainly than by causing every in- 
jury suffered by his employees, except injuries that are de- 
liberately self-inflicted, or due to intoxication or some other 
form of flagrant misconduct, to result for him in direct finan- 
cial loss. Although employers at first opposed this policy, on 
the ground that many of the accidents that occur are due 
to the carelessness of their employees, the logic of the situa- 
tion has compelled them to accept it. In European coun- 
tries they now very generally recognize that it is their 
duty to train their workers to greater care and thoughtful- 
ness and to so guard the machines they use and the work 
places in which they are employed that the number of 
accidents shall be brought down to the irreducible minimum 
which arise from the hazards inherent in the industry, and 
the expense of which should, therefore, be borne by the 
industry. 

§ 345. Accident insurance systems were in successful oper- 
ation in Europe for several years before serious attention 
began to be given to this problem in the United States. The 
first important compensation act passed (the New York Act 
of 1910) was promptly declared unconstitutional by the 
courts. Under the employers' liability law which had been 
in operation from an early period the employer was held to 
be liable to pay damages to the injured employee or his de- 
pendents only when the accident was due to the employer's 
own negligence. Proof of such negligence was hedged about 
by so many technical defenses that in practice it was possible 
to collect damages for only a small proportion of the acci- 
dents that occurred. In retaliation, in those cases in which 
the employer could be charged with negligence sympathetic 
juries had fallen into the habit of awarding verdicts so high 
as to make the system little less expensive for the financially 
responsible employer than the more humane and rational 
compensation systems of European countries. Notwithstand- 
ing these acknowledged defects, the New York Court of Ap- 
peals held that to require the employer to pay compensation, 
even to a rigidly limited amount, in cases in which the acci- 
dents were not due to his negligence was " taking his prop- 



ELECTIVE COMPENSATION SYSTEMS 603 

erty without due process of law " and, therefore, unconstitu- 
tional. 

That this interpretation of the " due process " clauses The Con- 
of the state and federal constitutions was not universal was stitutional 
soon demonstrated by a directly contrary decision of the 
Supreme Court of the state of Washington. That state 
passed in 1911 an act requiring employers to pay premiums 
into a state accident insurance fund out of which compensa- 
tion, in accordance with a legally prescribed scale, should be 
paid to the victims of industrial accidents or their depend- 
ents in accordance with the Norwegian plan. In upholding 
this law as constitutional the Washington court took direct 
issue with the New York court and held that requiring em- 
ployers to contribute toward the compensation of accidents 
which were not due to their negligence was not ** taking 
their property without due process of law. ' ' 

Deterred by the New York decision most of the fifteen states Elective 
which have thus far (1913) substituted the compensation Systems of 
system for the discredited employers' liability sj^stem, have o^P^^^^a- 
arrived at the result by indirect means. Instead of requiring 
employers to pay compensation to all employees injured in 
their service or to contribute to insurance funds for this pur- 
pose, they have swept away the technical defenses which 
they might oppose to damage suits in accident cases and at 
the same time permitted them to escape the heavier liability 
which this would entail by substituting for their employers' 
liability a regulated compensation system in which all of 
their employees, irrespective of the cause of the accident, 
might share. Dissatisfaction with this subterfuge has caused 
Ohio and California to amend their constitutions ex- 
pressly to permit the enactment of accident compensation in- 
surance laws. Through judicial decisions in harmony with 
that of the court of Washington or constitutional amend- 
ments it seems likely that American state legislatures and 
Congress will soon be enabled to deal with the industrial ac- 
cident problem unhampered by constitutional limitations. 

§ 346. Although the system of accident compensation that 
was at first adopted in American legislation was that of the 
United Kingdom, it is already evident that preference will 



604 



SOCIAL INSURANCE 



Policy- 
Advocated 
for the 
United 
States. 



iu future be given to one of the other plans— compulsory 
insurance through employers' mutual associations or through 
a state department. For large industrial states which are 
comparable in the number and variety of their industries 
with the German Empire the employers' mutual accident 
insurance association plan has much to be urged in its favor. 
As in Germany, it should serve to cause employers to reduce 
accidents to the lowest possible point. At the same time, 
provided that a state insurance department were empowered 
to review authoritatively all decisions in reference to the 
compensation to be paid, it should be a satisfactory means 
of providing for the victims of accidents or their dependents. 

In the smaller and less developed states, the system of 
state insurance would be preferable, since in many industries 
there would not be enough employers to maintain a mutual 
association and the expense of administering a number of 
small associations would be unduly burdensome in compari- 
son with the cost of a simple state insurance department. 
On these grounds, it seems probable that many of the Western 
and Middle Western States will follow the example of Wash- 
ington, while several of the larger industrial states will ac- 
cept the German system as their model, perhaps maintain- 
ing a state insurance department as an alternative for em- 
ployers who for any reason do not wish to belong to mutual 
associations. 

As time goes on, both of these plans, if limited by state 
lines, are bound to prove unsatisfactory. Varying scales 
of compensation and varying methods of meeting the com- 
pensation obligation in adjoining states will prove vexatious 
to competing employers whose businesses extend beyond the 
limits of the states in which their plants happen to be located. 
The only remedy for the confusion growing out of the di- 
versity of state legislation is the substitution of national leg- 
islation prescribing a national system of accident compensa- 
tion insurance. Whether this can be introduced without an 
amendment to the Federal Constitution is a question on which 
there is some difference of opinion. That it will be intro- 
duced, however, even though an amendment prove necessary, 
is rendered probable by the fact that the United States is 



ILLNESS INSURANCE 605 

becoming every year a more homogeneous country whose in- 
dustries and industrial problems have ceased to be merely 
state and local and become truly national. 

§ 347. Even more serious than industrial accidents as a Germany's 

cause of interrupted wages are illness and premature death. Compulsory 

, -, -, . , , ^ r. 1 Illness 

Germany, as already stated, introduced a system ot compul- j^g^j-ance 

sory illness insurance in 1883 as a preparation for her com- system, 
pulsory accident insurance law of the following year. The 
German plan of illness insurance as it has been amended 
and extended since * now applies to all wage-earners receiv- 
ing 2000 marks or less a year and embraces over two-thirds 
of the gainfully employed persons in the Empire, or about 
19,000,000 individuals. The obligations to see that their wage- 
earners are provided with insurance cards rests on employers. 
They must purchase illness insurance stamps from the Post- 
Office and see to it that each week stamps equal to the required 
premiums are attached to the cards of all of their employees. 
They themselves must pay one-third of the cost of these 
stamps, while they may deduct the other two-thirds from the 
employee's wages. The cards thus serve as proof that the 
required premiums have been met and that the owner is en- 
titled to the insurance benefits provided by the law. The 
actual administration of these benefits is through six diiferent 
types of sick-benefit organizations which are supervised by 
the Imperial Insurance Office but actually managed by com- 
mittees representing employees, employers and disinterested 
citizens. 

The benefits provided are substantial. They include: (1) Benefits 
free medical attendance, medicines and needed appliances, ^°^^ ^ • 
such as spectacles, artificial limbs, etc.; (2) half-wages after 
the third day of ilbiess and continuing, if necessary, up to 
a total period of 26 weeks; (3) free admission and care 
in a hospital when this is deemed necessary; (4) twenty 
times the average wages as a funeral benefit when the ill- 
ness results fatally; (5) a special benefit for women mem- 
bers for six weeks after confinement; (6) small pensions for 
surviving widows and children. To these, other benefits may 

* The whole social insurance system of Germany was codified in a 
Consolidation Act passed in 1911. 



606 



SOCIAL INSURANCE 



Statistics 
of Illness. 



The 

British 

National 

Insurance 

Act. 



Benefits 
Provided. 



be added by illness insurance organizations, which administer 
their funds so wisely that they can afford it, or by employers 
who are humanely disposed. Large employers, like the well- 
known Krupp Company, take a special pride in making much 
better provision for their employees than the compulsory in- 
surance law requires. 

As a result of the operation of this system the German Em- 
pire now has very full statistics with reference to the preva- 
lence of illness in that country. On the average it is found 
that there are eight days of illness in each year for every 
insured person. The total number of days' illness in a year 
compared with the total number of deaths indicates that on 
the average three persons are continuously ill for every one 
who dies. Although this proportion of reported cases of ill- 
ness has grown considerably since the system was first intro- 
duced, owing some critics say to the prevalence of simulated 
cases of illness, the death-rate among the insured was re- 
duced from ten in every thousand in 1888 to 7.8 per thou- 
sand in 1907. 

§ 348. The best proof of the success of the German system 
of compulsory illness insurance has been its imitation by 
other European nations. The latest country to follow Ger- 
many 's example in this field was the United Kingdom through 
its National Insurance Act, which took effect July 15, 1912. 
Under this act every employee earning less than £160 a year 
must be insured against illness, a requirement which will, 
it is estimated, bring 14,000,000 wage-earners under the sys- 
tem. As in Germany, employers are required to buy insur- 
ance stamps from the Post-Office and attach them each week 
to the cards which all employees must have. The employers' 
contribution is relatively larger than in Germany, being three 
pence a week for each employee together with an additional 
four pence for male and three pence for female employees 
which may be deducted from wages. When the wages are 
very low the employers' share is made proportionately larger 
with a view to discouraging the sweating system. 

Out of these small premiums supplemented by contribu- 
tions from the public treasury the following benefits are pro- 
vided: (1) free medical treatment, medicines and needed ap- 



OLD AGE INSURANCE 607 

plianees; (2) ten shillings a week for men and seven shillings 
six pence for women during the period of illness up to 
26 weeks; (3) admission to a hospital or sanatorium 
when prescribed; (4) a maternity benefit of thirty shillings 
for the wife of an insured man or an insured woman at time 
of her confinement; (5) a disablement benefit of five shillings 
a week after 26 weeks if disability continues. 

As the British system is simpler than the German in re- 
quiring flat premiums and providing uniform benefits irre- 
spective of wages, so its administration is more centralized. 
It has not been in operation long enough to justify any state- 
ments as to its success, but already some of those who origi- 
nally opposed it have become its supporters. The feature of 
the system that is most commendable is the liberal provision 
made (not less than £1,000,000 each year) for the erection 
of needed hospitals and sanatoria. In the United Kingdom, 
as in Germany, emphasis is rightly placed on the prevention 
of illness and death as more important even than humane care 
of those who suffer from these evils. 

§ 349. Even more heart-rending often, if less common, than Germany's 
industrial accidents or illness, are interrupted earnings and Compulsory- 
poverty due to old age. In harmony with her general policy, ^^ 
Germany in 1887 introduced a system of compulsory old age jj^j*.- j^. 
and invalidity insurance to cope with this evil. Under this surance 
plan, which is administered by the government itself, every System, 
employer must see that every employee from the time he at- 
tains his sixteenth year is provided with an old age and in- 
validity insurance card. To this he must attach stamps 
covering the required premium each week, paying one-half 
of the cost of the stamps himself and taking the other half 
from the employee's wages. From the funds secured through 
the sale of these stamps, small annuities are paid to all wage- 
earners from their seventieth year on and to others who be- 
come totally incapacitated at an earlier age. The premiums 
are very low, only from 3^ to 9 cents a week according to 
the rate of wages, and the annuities are correspondingly 
small, averaging only about $40 a year, to which the govern- 
ment adds $12.50 for each pensioner out of the imperial 
treasury. This small but certain provision, however, relieves 



608 SOCIAL INSURANCE 

the aging German Avage-earner of his two gravest fears — ^the 
almshouse and the pauper's grave. Since the payments are 
made to all they have no tendency to discourage individual 
thrift ; they simplj^ insure a bare living income to every per- 
son who has passed the period of wage-earning capacity, 
other § 350. Other countries which have made provision against 

Methods ^^^ ^g^ 1^^^,^ preferred either gratuitous old age pensions 

(Denmark, 1891) or a combination of assisted old age pen- 
ing for V J / ^ o jr 

the Aged sions and insurance (France, 1908). After a prolonged study 
Poor. of the problem the United Kingdom in 1908 adopted the first 

of these plans. Under the Old Age Pension Law of that year 
every wage-earner who has reached the age of seventy, after 
having lived in the United Kingdom during the tw^enty years 
preceding the date of application, and who can satisfy the 
authorities that his total yearly income from other sources 
does not exceed £31 10s. ($157.50), that he has not failed to 
work according to his ability, opportunity and need, for the 
maintenance of himself and his family, and that he has not 
within ten years been convicted of a prison offense may ob- 
tain a state old age pension. The maximum pension is only 
five shillings a week, which is reduced, depending on the in- 
come from other sources, to as little as one shilling a week. 
In other words, the British government undertakes to pro- 
vide a bare living income to meritorious and necessitous old 
persons and by so doing to relieve them from the disgrace 
of becoming paupers. 
Conclusion. There is difference of opinion among advocates of collective 
provision for old age as to whether the German system of 
compulsory insurance or the British sj^stem of gratuitous 
state pensions is to be given the preference. The objections 
to the German sj'stem are that it is cumbrous and costly to 
administer, that the burden it imposes on employers, who 
are in no wise responsible for the fact that their employees 
grow old in their service, is indefensible, and that the view 
that the enforced contributions it entails serves to inculcate 
thrift is illusor3\ Against the British system it may be urged 
that it involves a hea^'A^ financial burden on the state, that 
it discourages thrift since it benefits only wage-earners who 
have failed to make adequate provision for their old age 



UNEMPLOYMENT INSURANCE 609 

themselves, and that it merely adds a new class of virtual 
paupers to those who were previously cared for through the 
workhouses. Balancing these considerations against each 
other, it would seem that the system of compulsory insurance 
is more in harmony with the ideal of preserving the ambition 
and self-respect of wage-earners than the system of gratuitous 
pensions. The demoralizing consequences of lavish military 
pensions in this country should put us particularly on our 
guard against deciding too hastily to introduce old age pen- 
sions into the United States. 

§ 351. The last misfortune to be provided against through Difficulty 

social insurance and the one that presents the greatest diffi- ° nsunng 

, . . Til Against 

culties is unemployment. Simulation, pretending to be the unempioy- 

victim of the misfortune that is provided against, is an ob- ment. 
stacle to the efficient administration of all plans of social in- 
surance. The victims of industrial accidents may magnify 
the extent of their injuries or prolong unreasonably the dura- 
tion of their disability. Illness is still easier to simulate. 
Even old age must be proved and wherever proof is required 
opportunity for fraud is admitted. But the difficulty of de- 
tecting impostors and preventing frauds against the insurance 
funds is slight in connection with these misfortunes as com- 
pared with unemployment. There is nothing easier to imi- 
tate than a person anxious to work but unable to find em- 
ployment, and an escape for a time from the drudgery and 
monotony of many kinds of employment, is so welcome, that 
provision of living incomes for the unemployed presents a 
temptation that it is difficult for some wage-earners to re- 
sist. Obviously any plan of insurance against unemployment 
must be supplemented by means for applying rigidly the 
work-test to all those who seek to benefit from it. The ob- 
vious difficulty of applying this test on an adequate scale 
has been the chief circumstance that has thus far deterred 
Germany, the pioneer in all other fields of social insurance, 
from attempting to introduce insurance against unemploy- 
ment. 

While no Continental country has ventured to establish The 
a national system of insurance against unemployment, several 
European cities have done so. The most famous attempt 



610 



SOCIAL INSURANCE 



■Unemploy- 
ment 

Insurance 
System 
of the 
United 
Kingdom. 



of this kind is the plan devised by the Belgian city of Ghent 
and commonly known as the " Ghent system." The essence 
of this plan is that the administration of the insurance is 
left to trade unions which themselves make substantial con- 
tributions out of the dues of their members to unemployment 
benefits for them. These benefits are increased by appropria- 
tions from the public treasury justified on the ground that if 
the city does not help to provide for the necessities of the un- 
employed and their families in this way, it will be forced to 
do so in the more humiliating and demoralizing form of poor 
relief. The contributions required from the trade unions give 
them the strongest incentive for preventing fraud against the 
fund, and since the members of a union know one another and 
can usually judge whether a fellow member is deliberately 
loafing at the expense of the fund, the administration is fairly 
economical and efficient. 

§ 352. Influenced by the success of the Ghent experiment, 
the British government resolved to seek a national solution 
for the evil of unemployment. The first step was the organ- 
ization of a chain of free employment bureaus connecting 
the labor markets of every corner of the Kingdom into an 
organized unit designed to bring together, however far they 
might be separated, the manless job and the jobless man. At 
the time this is written (April, 1913) as many as 450 of these 
employment exchanges have been provided for and they have 
become the most important agencies for supplying employers 
with additional hands and unemployed men, women and 
children with employment. Since distances in the United 
Kingdom are short these connected labor exchanges should 
serve to reduce unemployment to a minimum. Surplus 
workers in localities in which industries are slack can be 
diverted to other localities where the opportunities for re- 
munerative employment are better. Moreover, through the 
data collected and published through these exchanges the 
educational authorities in the Kingdom are for the first time 
provided with the requisite information about the industrial 
opportunities which the country affords on which to base wise 
plans of industrial education and vocational guidance. 

Equipped with these employment exchanges Parliament 



THE FUTURE 6ll 

included in the National Insurance Act of 1911 the require- 
ment that employers in certain designated trades, embracing 
some 2,400,000 wage-earners, must see to it that each of their 
employees was provided with an unemployment insurance 
card. To these each week they are required to attach five 
penny unemployment insurance stamps supplied by the Post- 
Office, contributing one-half of the cost of them from their 
own pockets and deducting the other one-half from wages. 
Employees presenting cards showing that the premiums have 
been regularly paid and proof that they have sought in vain 
for work may apply to the appropriate authorities for un- 
employment benefits. The benefit is only seven shillings a 
week and may be continued for no longer than fifteen weeks 
in any one year, but will, it is believed, suffice to encourage 
trade unions through their own funds to pay supplementary 
benefits and thus protect the wage-earners included and their 
families from outright destitution. To prevent fraud against 
the fund every employee applying for a benefit is required 
to register at the nearest employment exchange. Through it 
the sincerity of his desire to secure work can be tested, since 
there are always some calls for workers and these may be 
directed toward the applicants for work whose good faith 
is in question or who have been longest in receipt of pay- 
ments from the fund. As the success of the plan is demon- 
strated it is proposed to extend it gradually to other trades 
until a large proportion of the wage-earners of the country 
is protected. Since this is the first national attempt to cope 
with the evil of unemployment through insurance, its opera- 
tion is being followed with keen interest by economic students 
all over the world. 

§ 353. Except as regards industrial accident insurance, Future of 
the United States has not yet made a beginning in the field Social 

of social insurance. This backwardness has been due in part . ., 

^ in the 

to the smaller need of such measures for American wage- united 
earners with their relatively higher wages, but even more states, 
to a general distrust of policies calling for a large measure 
of governmental interference and to sheer indifference. Signs 
are not lacking that fuller knowledge of the sufferings which 
fall to the lot of American wage-earners in consequence of 



612 SOCIAL INSURANCE 

the misfortunes that have been enumerated is leading to a 
more sympathetic interest in such policies. European experi- 
ence is now rich with lessons as to what may and what should 
not be done in substituting collective provision for these evils 
for the quite inadequate individual provision on which we 
have heretofore relied. As these lessons are learned, compre- 
hensive systems of social insurance comparable with those 
of Germany and the United Kingdom are sure to be devised 
for the United States. While they are in the experimental 
stages, there are obvious advantages in having their operation 
limited to single states. As they are perfected, however, the 
greater economy, efficiency and uniformity of a national sys- 
tem of social insurance will suggest the desirability of federal 
legislation in this field. Thus in connection with social in- 
surance as in connection with other economic and social re- 
forms, we must be prepared for an extension of the powers 
and duties of the Federal Government. It is doubtful 
whether this can be accomplished without an amendment to 
the Federal Constitution, but as the income tax amendment 
demonstrates, this is an obstacle that can and will be over- 
come, so soon as the need for the change has been made clear 
to a sufficient number of intelligent citizens. 

REFERENCES FOR COLLATERAL READING 

*Frankel and Dawson, Workingmen's Insurance in Europe; *Eastman, 
Work-Accidents and the Law; *Seager, Social Insurance: A Program 
of Social Reform; *Ruhinow, Social Insurance; Lewis, State Insurance, 
a Social and Industrial Need; Dawson, Social Insurance in Germany; 
*Beveridge, Unemployment: A Problem of Industry, second edition; 
Gibbon, Unemployment Insurance; Smith, Everybody's Guide to the 
(British) National Insurance Act of 1911; Hayes, British Social 
Politics; Report of United States Bureau of Labor on Workmen's 
Compensation and Insurance Systems in Europe, 2 vols.; *Number of 
American Labor Legislation Review on " Social Insurance " (June, 1913 ) . 



CHAPTER XXXIII 
SOCIALISM 

§ 354. The plans of economic reform that have been con- Socialism, 
sidered in previous chapters would modify but little the 
most characteristic features of our present industrial system 
— freedom of individual enterprise and private property in 
the instruments of production. Socialism, the plan of reform 
we are now to consider, proposes to do away with these fea- 
tures by substituting for private management of industry 
state management and for private ownership of the instru- 
ments of production collective ownership. Although these 
changes are economic and are urged usually on the basis of 
economic reasoning, socialism is more than a mere plan of 
economic reform. From the point of view of many of its 
advocates it is primarily a great plan of moral reform. It 
proposes to establish economic and social relations on a basis 
that will encourage all human virtues and at the same time 
discourage selfishness, greed, vanity and ostentation. Thus 
it is to many not only an economic program but a religion, 
the religion of humanity seeking for heaven not in the vague 
hereafter but here on earth. In this chapter it will be possi- 
ble only to describe its growth and present importance and 
to indicate some of the most serious difficulties in the way 
of its realization. 

§ 355. Modern socialism made its first appearance as a pro- The 
test against the evil consequences of the factory system and Utopian 
of capitalistic production. Saint-Simon (1760-1825) and Socialists. 
Fourier (1772-1837) in France and Robert Owen (1771-1858) 
in England urged their fellow countrymen to turn their backs 
on the crass materialism about them and to join together in 
the attempt to reorganize industrial society along fraternal 
lines. Their projects were Utopian and they are usually 
called utopists, not because many of their plans and ideas 

613 



614 



SOCIALISM 



Socialism 
of Karl 
Marx. 



Its Basic 
Principle. 



were not admirable but because they greatly underrated the 
difficulties in the way of their execution. Of the numerous 
communities that were organized by their followers in differ- 
ent parts of the world, all but one or two proved failures. 
The only permanent results of their endeavors were the 
launching of the cooperative or copartnership movement de- 
scribed in Chapter XXXI. and the clear demonstration that 
efforts to reform industrial society in any fundamental way 
must prove abortive without the aid of society's most power- 
ful organ, the state or government. 

§ 356. The series of political revolutions which began in 
Europe in 1830 was associated with the second phase of the 
socialist movement, so-called revolutionary socialism. Louis 
Blanc (1813-1882) was the leader of this new movement in 
France, but it has owed its strength chiefly to Karl Marx 
(1818-1883), whose monumental work Das Kapital is not in- 
correctly described as the " bible of socialism." Karl Marx 
was the son of cultured Jewish parents, and combined with 
thorough university training in law and philosophy, pro- 
found sympath}^ with the democratic movements of his day. 
Exiled from Germany because of his radical opinions and dec- 
larations, he lived for the greater part of his life in London, 
where he formulated the system that has since come to be 
known as " scientific socialism." 

The basic principle of this system is the materialistic, or 
economic, interpretation of history. The institutions and 
standards of each historical period are, Marx thought, deter- 
mined by the prevailing system of production and distribu- 
tion. Through the industrial revolution, he believed, an irre- 
pressible conflict of interest has arisen between capitalist- 
employers, who own the instruments of production, and 
wage-earners who depend upon capitalists even for the op- 
portunity to work. This conflict, or " class struggle," will, he 
thought, become more and more acute, since " capitalistic 
production," as he conceived of it, tends inevitably toward 
greater and greater concentration of ownership on the one 
side and toward greater and greater misery for the " ex- 
ploited " A¥age-earners on the other. The only possible out- 
come of such a struggle, he predicted, is a social revolution. 



OTHER THEORIES 615 

Wage-earners, the " proletariat," will finally rise in their 
might and forcibly take over the instruments of production 
from their oppressors and the socialist state will be born. 
The coming of socialism is thus, in his opinion, inevitable. 
With this conviction, he conceived it to be his task to prepare 
men's minds for it by his teachings and to organize the pro- 
letariat for the responsibilities that would rest upon them 
when control of the socialist state of the future should come 
into their hands. 

§ 357. In addition to the materialistic interpretation of Other 
history, the class struggle and the inevitable social revolu- Theories, 
tion, Marx advanced the theory of surplus value and the 
over-production theory of economic crises as further elements 
in his system. He accepted from the English economist. 
Ricardo, the view that value tends to be in proportion to 
the quantity of labor necessary to the production of a com- 
modity. Since it was clear that only a part of the value 
of the products of industry was actually turned over to the 
workers to remunerate them for their toil, he maintained 
that capitalistic production involves constant exploitation of 
wage-earners. They receive of the values they produce only 
enough for their subsistence ; the remainder, the ' ' surplus 
value," goes to their capitalist-employers in consequence of 
the fact that the latter control the instruments of production, 
land and capital goods, without which the wage-earner can- 
not earn even his necessary subsistence. 

The Marxian theory of crises is that unregulated competi- 
tion causes capitalist-employers, in their greed for profits, 
to add constantly to the volume of products which they put 
upon the market. Since the consuming power of the masses 
is limited by the subsistence wages which they receive, pro- 
duction tends constantly to run ahead of consumption. As 
a result, there is a heaping up of unsold and unsalable com- 
modities until a crisis is reached. Prices then drop to a point 
which makes further production unprofitable. Widespread 
depression and unemployment ensue and only after a drastic 
process of liquidation, which forces the smaller and weaker 
employers into the ranks of the proletariat, can industry be 
resumed. The same vicious round is then repeated, each 



6i6 



SOCIALISM 



Criticism 
of Argu- 
ment of 
Marx. 



crisis serving to widen the gulf between the capitalist-em- 
ployers who survive and the proletariat and to hasten the 
coming of the inevitable social revolution and the launching 
of the socialist state. 

If the strength of socialism depended solely on the truth 
of the principles which Marx so ably explained and de- 
fended, the movement would have long since lost its sig- 
nificance. Every one of these principles has been refuted 
time and again by other writers, and even the loyal follow- 
ers of Marx now very generally admit that at important 
points his scientific system was defective. The materialistic, 
or economic, interpretation of history still has many sup- 
porters, but all now agree that its connection with belief in 
socialism is entirely accidental. There are many socialists, 
notably the " Christian socialists," who regard the notion 
that men are dominated in their actions wholly or chiefly by 
economic motives as monstrous, and who base their whole 
faith in the possibility of socialism on the hope that men will 
come to be controlled more and more by moral and religious 
motives. On the other hand, there are believers in the eco- 
nomic interpretation of history who think they see clear evi- 
dences that the democratic movement of the nineteenth cen- 
tury is to be succeeded in our day by a reaction in the direc- 
tion of aristocratic and even monarchic institutions. Belief 
in the coming of socialism is thus not the consequence of ac- 
ceptance of the materialistic interpretation theory but of 
applying that theory in a particular way. 

The applications which Marx made in his theories of class 
struggle and of the inevitable social revolution are the real 
tests of his system. But neither of these theories is tenable. 
That society is divided into classes with conflicting interests 
is obvious. That at times these diverse interests give rise to 
so great friction that the situation is accurately described as 
a ' ' struggle ' ' must also be admitted. But that society is now 
dividing into two great classes, capitalists and proletariat, the 
one growing numerically smaller, as it grows richer, the 
other numerically larger, as it grows poorer, as Marx be- 
lieved, is directly contradicted by all of the statistical evi- 
dence. The size of individual fortunes is undoubtedly in- 



THE CLASS STRUGGLE 617 

creasing as the wealth of the world increases, but in all coun- 
tries the proportion of the people that accumulates some prop- 
erty is growing relatively to the proportion of those who 
" have nothing to lose but their chains " — to repeat the fa- 
mous phrase of Marx's Communist Manifesto. If it is only 
through the intensification of this phase of the class struggle 
that the social revolution of which Marx dreamed is to be 
brought about it is not only not " inevitable " but every year 
is making it more improbable. 

Nor can the prominence which Marx ascribed to class strug- True 
gle in shaping human destiny be justified either historically Signifi- 
or logically. The social groups to which each individual be- ^^^^^ 

longs are numerous and each has claims on his interest and struggle, 
loyalty. The highest claim of all, as is proved in times of 
national stress, is that of country. Americans may be capi- 
talists or proletarians in their economic relations, but those 
that count are first and foremost Americans. Instead of 
growing weaker with the progress of time this tie of common 
citizenship in a common country gives every evidence of 
growing stronger. And as it grows stronger the common 
government will be less and less subservient to narrow class 
interests, more and more heedful of common social interests. 
If socialism ever comes it will be not through a social revolu- 
tion, but through the gradual expansion of governmental 
functions in the effort to protect and promote common inter- 
ests. That such an expansion is now going on no one can 
deny. If this continues until the ownership of instruments 
of production and the direction of business activities have 
been taken over by the state, it will be because public opinion 
has been gradually brought to believe that such a course is 
required by public policy. 

§ 358. Even more clearly fallacious are the Marxian theo- Criticism 
ries of surplus value and of over-production as the cause of °^ Theory 
crises. It is a fundamental error in analysis to ascribe the ° ^^^ ^^ 
value of the products of industry to the labor involved in 
their production. Value, as already explained, is the joint 
result .of utility and limitation of the supply. Under condi- 
tions of free competition value arises because of the cost in- 
volved in producing goods. This varies under different 



618 SOCIALISM 

natural conditions and, consequently, rent appears. Under 
the least favorable natural conditions resorted to cost in- 
cludes not only labor, but also the waiting involved in sup- 
plying the capital indispensable to efficient production. The 
value of the product must be great enough to remunerate 
workmen and capitalists, or the inducement which causes 
those at the margin of doubt between saving and spending 
to save will be removed and the fund of capital will be re- 
duced. The payment of interest is economically as necessary 
as the payment of wages. It is the premium industrial so- 
ciety offers to those who will furnish it with the capital it 
needs. It is true that much of the needed capital would 
be furnished if there were no premium, but it is equally true 
that many workmen, and especially those whose work is of 
most value to society, would work for nothing rather than 
abandon their chosen professions. In each case the reward 
is determined by the character and motives of the marginal 
men in the group affected. In each case, moreover, the neces- 
sity of rewarding these marginal men gives a value to the 
product sufficient to reward at the same rate all men in the 
group. The interest capitalists receive is in no sense sub- 
tracted from the reward that goes to labor. It comes from 
the extra product due to the assistance which capital goods 
render to production, just as the wages of labor come virtu- 
ally from the products of labor. In neither case is there any 
exploitation of one factor by the other. The whole conten- 
tion on which the theory of surplus value rests is thus with- 
out scientific justification. Unsatisfactory as the present in- 
dustrial system undoubtedly is at many points, it is at least 
cleared of the charge of being based on the legalized robbery 
of the laboring by the propertied class. 
Of Theory The over-production theory of crises errs by arguing that 
what might happen if business men acted with sole reference 
to immediate profits necessarily will happen. Warned by the 
experience of the past business men are more and more on 
their guard against carrying production beyond the consuming 
power of the community. Instead of becoming more frequent 
and more severe as Marx thought must be the case, crises ap- 
pear to be a diminishing evil. It is now generally acknowl- 



of Crises. 



STRENGTH OF SOCIALIST PARTIES 6l9 

edged that they are due more to over-expanded credit than to 

over-production. As credit machinery is rendered more perfect 

there is reason to hope that production may so adjust itself 

to consumption that the violent crises that were frequent in 

the nineteenth century will be less common in the twentieth. 

§ 359. Notwithstanding the fact that most of the theories Reasons 

and generalizations of " scientific socialism " no longer com- °^ ^°^' 

ress of 
mand the unquestioned assent even of thoughtful socialists, socialism 

the socialist movement itself seems to be steadily gaining 
strength and volume in every progressive country. This is 
because the vivid and eloquent portrayal of the defects in 
the existing industrial system in Das Kapital and other so- 
cialistic writings convinces an ever widening circle of readers 
of the need of a social revolution and because the socialist 
state seems to offer as promising a means of escape from 
present evils as any that has been suggested. It would be 
a mistake, however, to assume that all those who vote the 
socialist ticket in countries where socialist parties have been 
organized go farther than to sympathize with the socialist 
position on certain of the issues of the time. A large part 
of the socialist vote is merely a vote of protest against some 
of the conspicuous evils and abuses of the day. As these 
evils and abuses are corrected the citizens registering this 
protest will, many of them, fall back into more conservative 
parties. Thus as progress toward the goal of socialism is 
made it is highly probable that, after a certain point has 
been reached, the strength of socialist parties will begin to 
wane and reform will be sought in a different direction than 
that of a further increase in the functions of the state. 

Making full allowance for this consideration, the growth strength 
of socialist parties all over the world remains one of the of Socialist 
most significant political developments of the recent past, ^^.rties. 
The socialist party of Germany, the social democrats, cast 
only 312,000 votes in the election for members of the lower 
house (the Beiclistag) in 1881 and elected only twelve repre- 
sentatives. This vote increased steadily until in the election 
of 1912 the enormous total of 4,250,000 social democratic 
votes were cast — more than one-third of the total votes in 
the election — and 110 representatives were returned. But 



620 SOCIALISM 

for the German system of plural voting, against which and 
the enormous war expenditures this large vote was in part 
a protest, the social democrats would now largely control 
the German government. In no other European country has 
increase in the socialist vote been so marked as in Germany, 
but in France a socialist, Aristide Briand, has held the office 
of Prime Minister, while in the United Kingdom another so- 
cialist, John Burns, has risen to an important post in the 
cabinet. Meantime in the United States the socialist vote 
increased from 21,164 in the presidential election of 1892 
to 826,038 in that of 1912, and a socialist, Victor Berger, 
has held a seat in Congress (1911-1913). 

Advantages § 3go. Although cautious socialists usually refuse to com- 
^^"^^ mit themselves to any very exact account of how the socialist 

ism state of the future is going to operate, others, like Edward 

Bellamy in his book. Looking Backwmd, have been more dar- 
ing. In order to come to any conclusion with reference to 
the future of socialism it is necessary to weigh carefully the 
arguments of those who advocate it. 

The advantages claimed for socialism are both economic 
and moral. In contrast with the present system of produc- 
tion, which is wasteful and haphazard, it contemplates a sys- 
tem under which the economic needs of the community will be 
accurately estimated and the available land, labor and capi- 
tal carefully apportioned, so that just that quantity of each 
kind of good that is required will be produced. The duplica- 
tion of plants and the excessive production of particular 
goods that are now so common, will be avoided, the expenses 
of advertising and competitive selling will be saved and, 
finally, the production of goods that are harmful rather than 
beneficial to those who consume them will be suspended. As 
a consequence of these improvements on present practices 
there will be, it is claimed, an immense saving of productive 
power, which may be utilized to add largely to the volume 
of goods produced, to shorten the hours of labor or to com- 
bine both advantages to the benefit of mankind, both in its 
consuming and its producing capacity. 

The moral advantages claimed for socialism are even more 
noteworthy. Instead of depending upon self-interest as a 



OBSTACLES TO SOCIALISM 621 

spur to industrial activity, socialism relies upon the love 
of activity for its own sake, the desire to contribute to the 
common good, the sense of duty in the performance of tasks 
that are largely voluntary and the ambition to win social 
esteem and social distincton through conspicuous social serv- 
ice. It is labor copartnership extended and systematized to 
embrace the whole industrial field and has the same moral 
advantages over competition as has conscious cooperation. 
Under socialism all men would live literally as brothers, shar- 
ing in the common toil and enjoying each his portion of the 
fruits of that toil. 

§ 361. That this picture of an industrial society in which Difficulties 

all men live like brothers is attractive no right-thinking per- *° ^ 

Overcome 
son will deny. Students of economics must go farther, how- , ^^^ 

ever, and ask seriously whether it is an ideal that can be socialist 
realized. Unless the motives on which socialism must depend state, 
will cause men to be as industrious and efPjcient as they now 
are under the spur of self-interest, the change may be one 
decidedly for the worse rather than for the better. Dog- 
matizing as to motives which confessedly are now only partly 
developed would be profitless, but the following doubts are 
suggested for such consideration as they may seem to merit. 
Men as they are are fond of activity for its own sake, be- 
yond question, but not usually of the sort of activity for which 
they are best fitted in their role as producers of wealth. If 
this motive were alone to be depended upon, not ten in a 
hundred would be likely to declare themselves in favor of 
any useful forms of activity whatsoever. The other ninety 
would probably content themselves with pure play, finding 
their gratification in it partly for the very reason that it is 
entirely dissociated from any productive result. The desire 
to contribute to the common good would, doubtless, hold a 
larger number to the tasks best suited to their capacities, but 
the slight extent to which this desire is developed must im- 
press any one who observes the conduct of people toward 
forms of public property, like parks and monuments. The 
horizon of the average man is still painfully limited and 
the sacrifices he is willing to make for the vague public be- 
yond his family and immediate circle of friends are small, 



622 SOCIALISM 

except at times when his feeling of patriotism is appealed 
to by some grave national peril. The sense of duty is also 
a motive that could not safely be relied upon to hold many 
men to the monotonous daily round which is necessary to 
efficient production in most departments of industry. Fi- 
nally, the desire for social esteem and social distinction, which 
is certainly strong in the average man, is neutralized as a 
motive to industrial activity because in practice public 
opinion is very undiscriminating in its judgments. It rarely 
accords applause where and at the time applause is due, and 
it is very apt to reward with its approval quite unworthy 
candidates for its recognition. Some system of graded honors, 
like decorations or titles, might be devised, similar to those 
already in vogue to reward men for signal services on the 
field of battle, but that these would hold the rank and file 
of the industrial army to their tasks in the absence of other 
incentives will hardly be claimed by any one. It is believed 
that these considerations admit of but one conclusion, namely, 
that the motives to industrial activity on which socialism 
relies are all too weak and that some form of compulsion 
would have to be called in to supplement them if the system 
was to be put into practical operation. But compulsion is 
tyranny, and whether practised by a selfish despot or by an 
enlightened majority seeking only the general good, must 
react unfavorably on the characters of those concerned in 
it. Until socialism can be realized without it or without more 
of it than is now necessary to keep the enemies of society in 
order, its moral superiority over the present competitive sys- 
tem may well be questioned. At some future time, when 
men and women of a higher type compose society, socialism 
may prove practicable, but it does not seem to be adapted 
to men and women as they now are. And, it may be added, 
when human beings are so perfected that the motives on which 
socialism relies are dominant, it will make little difference 
what form of industrial organization is adopted. Competi- 
tion among such individuals will be, as it now is at its best, 
merely a generous rivalry between upright and fair-minded 
men, tempered by regard for the interests of others and re- 
strained by legal prescriptions. Such competition might re- 



OTHER CRITICISMS 623 

suit in industrial relations as ideally perfect as those pictured 
in connection with socialism, and if these relations do not 
now prevail it is not chiefly because of the industrial system 
under which we live, but because of the imperfections of the 
men and women who compose society. 

§ 362. Although less serious than the psychological ob- Other 
stacles to the realization of socialism, the administrative ob- Criticisms, 
stacles are sufficiently formidable. A few of them only will 
be referred to: Assuming a population disposed to give so- 
cialism a fair trial and the government in control of all land 
and capital goods, a first difficulty would be in connection 
with the assignment of occupations to individual citizens. 
The interests of production would require a certain quota 
of workmen in each department of industry. But how, 
in the absence of compulsion, could these quotas be secured? 
Under the present system the division is accomplished by 
the simple operation of the law of demand and supply. 
Branches of production that are inadequately manned at- 
tract more workers by offering them somewhat higher wages 
than are paid in other occupations. What corresponding in- 
ducement would be offered under socialism ? Is it not probable 
that in the absence of compulsion or of wages apportioned 
to the competitively determined value of the services ren- 
dered, certain employments would attract many more work- 
men than were needed while others would be avoided? One 
writer has suggested that the distribution of the available 
labor force could be accomplished by shortening the hours 
of employment in unpopular occupations until they attracted 
their quota of workmen. This might prove a workable so- 
lution of the difficulty, but its practical operation would 
involve obviously a high order of administrative ability on 
the part of the directors of the nation's industries. 

A second difficulty concerns the determination of the ex- 
change values of different economic goods. Since these are 
produced on government account quite independently of 
markets and the higgling of markets, such determination 
would have to be made through the application of some 
administrative rule. One rule that has been proposed is 
that each good be valued in proportion to the labor time in- 



624 SOCIALISM 

volved in its production. But how could such labor time Ke 
measured? What quality of labor should be selected as a 
standard ? Should the product of a day 's labor of a talented 
artist be valued the same as the products of the labor of a 
machine tender? If so, will there not be a continuing dis- 
crepancy between the demand for and the supply of artistic 
products? Shall no allowance be made for the part which 
land and capital goods play in production? The bare state- 
ment of these questions suggests the complexity of the prob- 
lem which would confront the government in connection 
with the mere valuation of the products of its farms and 
factories. 

A third difficulty concerns the decision as to the quantities 
of different goods to be produced from year to year, and 
especially as to the proportions of the labor time of the com- 
munity that should be devoted to the production of capital 
goods and of consumers' goods, respectively. Each community 
would have it in its power to neglect entirely the interests of 
the future by failing to replace or add to its stock of capital 
goods, or to provide abundantly for future requirements by 
devoting all the labor time not needed for the production of 
current necessaries to the production of such goods. What 
principle could guide government officials in deciding wisely 
on this all-important question? Would they not, as elected 
officers, be under a constant temptation to win popular favor 
by adding to the current supplies of goods at the expense of 
the fund of capital? 

Finally, there would be the difficulty of deciding as to 
the relative merits of different methods of production. If 
progress were to continue, improvements on current methods 
would be constantly necessary. How much labor time should 
be diverted from the routine of production along old lines 
to industrial experiments? Who would determine when an 
experiment in a given direction should be abandoned as bar- 
ren of result? Who would say when an old process and old 
machinery should be given up and a new process and new 
machinery substituted? In actual industrial society these 
questions are answered crudely, but effectively, through the 
impartial operation of competition. The best process usually 



SOCIALISTS AND REFORMERS 625 

wins in the long run because it pays best. Would the best 
process be as likely to be preferred under socialism? 

Many other difficulties might be suggested, but enough 
has been said to indicate the puzzling problems that would 
confront the directors of a socialistic state. These problems 
may in some remote future be successfully solved, but it is 
safe to predict that socialism will not become a practical pro- 
gram of economic and social reform until the average citi- 
zen has developed a very different attitude toward public 
questions than he now displays nor until political machinery 
has been devised for securing and keeping in office public 
officials of much higher character and capacity than are «om- 
monly found among the elected officials of to-day. 

Most socialists are disposed to make light of these difficul- ^^^ ^**^" 

ties and to declare that their concern is not with the socialist ° 

Socialists 
state of the future, which they believe will be quite able to take 

care of itself, but with the socialist movement of the present. 
As a means of popular propaganda this method of appealing 
to the faith rather than to the reason of the convert appears 
to have justified itself by its results, but it hardly serves 
to commend socialism to the careful student of economics 
In the absence of some evidence that the popular govern- 
ments of the future are going to display a degree of intelli- 
gence and efficiency far superior to that of the average citi- 
zens behind these governments, he cannot be blamed for doubt- 
ing whether the state will ever be able to perform satisfac- 
torily the important duties which socialists would impose 
upon it and for believing that a large field will continue to 
be left to private industry and enterprise assisted by private 
ownership of many of the instruments of production. 

§ 363. Although as regards the ultimate goal of economic Socialists 
progress there is a wide difference between socialists and non- *^^ Social 

socialists, as regards the next steps in social advance all ^ 

' ° ^ Compared. 

progressive thinkers on economic problems can make common 
cause. That progress must be away from the present gross 
inequalities in opportunity and wealth toward greater equal- 
ity is the view not only of socialists, but of all economists 
and social reformers. That a chief means of effecting such 
progress must be a widening of the functions of the state 



626 SOCIALISM 

in the direction of further limitations on the rights of prop- 
erty and the more rigid regulation of industries is also a con- 
viction widel}^ shared. In fact, there is so little real difference 
as regards their attitude toward the practical problems of 
the day between evolutionary socialists and progressive so- 
cial reformers that it is often difficult to tell one from the 
other. Consistent socialists cling to the belief that the ulti- 
mate solution of our economic problems is to be secured 
through the socialist state, but they admit that this ultimate 
solution is remote and that for many generations social reform 
is the important thing to be striven after. Non-socialists 
can see no reason to assign such an all-embracing role to 
the state in the industrial society of the future, but agree 
that there is urgent need of social reform in the present and 
that all should work together to secure it. 

Although based on an incorrect analysis of economic re- 
lations in its revolutionary form and looking forward to 
a future so remote as to have little direct bearing on present- 
day problems in its evolutionary form, socialism is much 
more than a mere " philosophy of the unsuccessful " or 
" vision of deluded dreamers." As an ideal it appeals 
strongly to many men and women who are neither unsuc- 
cessful nor dreamers and it supplies them with an excellent 
standard by which to criticize the undoubted evils in the 
present economic situation. Such criticism is both helpful 
and harmful. So far as it serves to concentrate attention 
upon definite evils and to foster the belief that they are 
remediable, it is a valuable aid to constructive social reform. 
So far, however, as it tends to intensify class antagonisms 
and to teach wage-earners that they are the victims of legal- 
ized exploitation and that they must organize to despoil by 
force the owners of property who oppress them, it is a bar 
to true progress. It is reassuring that in the United States, 
as well as in European countries where socialistic parties are 
strongest, less and less attention is being devoted in socialistic 
literature to " exploitation," " the class struggle," etc., and 
more and more to the real evils of the present day and the 
remedies that may be immediately applied to them. 



REFERENCES 627 



REFERENCES FOR COLLATERAL READING 

*Kirku'p, History of Socialism, third edition; * Spar go, Socialism; 
*Macdonald, The Socialist Movement; * Fabian Essays in Socialism; 
Eillquit, Socialism in Theory and Practice; Cross, The Essentials of 
Socialism; * Wells, New Worlds for Old; Bellamy, Looking Backward; 
Sombart, Socialism and the Social Movement; Marx, Capital, 3 vols.; 
Bohm-Bawerk, Karl Marx and the Close of his System; *Siinkhovitch, 
Marxism vs. Socialism; *WalUng, Socialism As It Is and The Larger 
Aspects of Socialism. 



CHAPTER XXXIV 
ECONOMIC PROGRESS 

The Nature § 364. Economic progress is improvement in general well- 
Eco- being due either to increased command over economic goods 
Proeress ^^ ^^ reduced costs of production. It may show itself in 
increased earnings for the laboring masses, in shortened 
hours of labor or in an increased adaptation of work to the 
tastes and capacities of workmen. Definite as these criteria 
of progress appear to be, it is unfortunately true that there 
are no means of comparing them accurately from generation 
to generation. Until recently few records were kept of the 
commodities which families in different circumstances were 
in the habit of consuming. Even those which are now pre- 
served will be puzzling in many of their details to future 
economists because the goods consumed will have changed in 
kind and quality as well as in quantity. The impossibility 
of making exact allowance for such changes opposes a per- 
manent barrier to accurate comparisons between the stand- 
ards of living of different periods. Similar difficulties are 
encountered in trying to gage changes in the sacrifices in- 
volved in production. Although it can be shown that the 
length of the working day has been shortened, it may yet 
be claimed by the unbelieving that the intensity of labor has 
increased correspondingly, and there is no certain way of 
deciding whether or not this has been the case. Under these 
circumstances the economist must content himself with com- 
paring those objective indications of well-being, such as the 
rates of wages earned by workmen of different grades, the 
length of the working day, etc., which admit of measure- 
ment and appeal to the judgment of intelligent observers 
to determine whether these and other changes have really 
added to human welfare. 

Even so simple a question as that whether average wages 

628 



CONSUMPTION AND PRODUCTION 629 

have increased or diminished can be answered only after Changes in 
elaborate statistical investigation. In recent years careful W^S'^^ ^^^ 
studies of wage statistics have been made in many different „ . 
countries. It will be impossible even to summarize the re- ment. 
suits of these inquiries in these pages, but it may be asserted 
confidently that in the United Kingdom during the last one 
hundred years real wages have increased on the average not 
less than fifty per cent and that in the United States they 
have increased nearly, though apparently not quite, as much. 
As regards hours of labor the evidence of progress in both 
countries is equally conclusive. The reduction has not been 
less than two a day, that is, the workday in different em- 
ployments has been shortened from an average of from ten 
to fourteen hours to an average of from eight to twelve hours. 
As regards command over commodities and leisure time in 
which to enjoy them wage-earners generally are, therefore, 
distinctly better off to-day than they were a century ago. 

§ 365. Another method of gaging the extent and direction Progress 
of economic progress is to review the changes that have oc- ^^ ^^' 
curred in the fields of consumption, production and distri- 
bution to determine whether they have been, on the whole, 
favorable. In Chapter V. we considered the contributions 
which changes in wants and habits of consumption may make 
to general well-being. Progress in this field depends upon 
increasing attention to the laws of variety, of harmony and 
of least social cost, upon greater economy in consumption 
and upon the substitution for narrow and selfish luxury of 
more social uses of wealth. No one can compare impartially 
these aspects of the life of to-day and of life in the past, 
from the point of view of the average wage-earning family, 
without being impressed by the remarkable advance that has 
been made. 

Even more obvious than progress in consumption is the Progress 
progress that has been made in production. Invention and ^^ Produc- 
discovery have scored triumph after triumph since the first ^°^' 
application of steam power to industry, and in every branch 
of business the productiveness of labor has been largely in- 
creased. Other causes contributing to this result have been 
the opening up to exploitation of new lands and new sources 



630 



ECONOMIC PROGRESS 



Progress 
Distribu- 
tion. 



Reasons 

Why 

Wages 

Remain 

low. 



of mineral wealth, the growth of capital, improvements in 
forms of industrial organization and the development of 
more capable and intelligent men and women. 

When the enormous multiplication of goods that has been 
made possible by these changes is considered, it may well 
seem surprising that the condition of wage-earners has not 
been improved even more than has been the case. To account 
for this fact we must consider the progress that has been made 
in the field of distribution. 

^ § 366. Progress in distribution results from changes which 
increase the command over goods enjoyed by the masses. To 
measure it the earning-power of the bare-handed unskilled 
workman of one period must be compared with that of the 
same workman of another, allowance being made for any 
change in the proportion which unskilled workmen bear to 
the whole population. The facts already cited indicate that 
wages have risen substantially, and yet the margin between 
the necessary expenses of the ordinary laboring family and 
its earnings is still painfully narrow, even in the United 
States, the country of high wages. 

The reasons why the average workman still receives such 
a small return have already been suggested. In the first 
place, the increased productiveness of industry has been due 
in large measure to improvements in the capital goods which 
assist production. The immediate tendency of such improve- 
ments is to add to the earning power of capital, rather than 
to that of labor. This has been neutralized by a remarkable 
growth in the amount of capital, and the rate of interest 
must have fallen to a very low level had not population also 
increased at a remarkable rate. The net result of these 
changes has been a lower rate of interest on an immensely 
larger capital fund and a somewhat higher rate of wages 
for a greatly increased laboring population. A second point 
concerns the trend of rent. The opening of new lands to 
exploitation must have raised materially the margin of culti- 
vation and thus reduced the rent fund, had it not been paral- 
leled by the remarkable growth in population just referred 
to. The older countries of Europe have poured out millions 
upon millions of colonists to the new lands, but at the same 



INFLUENCE OF POPULATION 631 

time, except in the single case of Ireland, they have added 
substantially to their own populations. In consequence, the 
margin of cultivation in European countries has been lowered, 
while the rapid settlement of new countries has caused the 
better lands and natural resources there quickly to command 
high rents. Thus the rent fund, like the interest fund, has in- 
creased enormously in the aggregate, notwithstanding the fact 
that the margin from which rents are calculated has as yet 
been only slightly lowered. A last point concerns the deduc- 
tions from the social income made because of the monopoly 
powers of certain enterprisers. There can be no question that 
a considerable share of the new wealth due to economic 
progress is enjoyed by those controlling the various forms of 
monopoly analyzed in earlier chapters. If these monopoly 
incomes could be diffused either by more general competition, 
by taxation or by the legal regulation of prices, the earnings 
of workmen might be higher. 

A superficial consideration of the above tendencies might Influence 
lead to the conclusion that the growth of population was °^ *^® 
the chief cause of the persistence of the low earning power 
of workmen. Undoubtedly, had population increased less 
while capital increased at the same rate and new lands and 
natural resources were opened on the same scale, the economic 
position of the average man would have been much improved, 
but we are not justified in assuming any such possibility. As 
a matter of fact, the high rate of interest, which has been 
a chief influence in encouraging and making possible the re- 
markable increase in capital, has itself been maintained in 
the face of such increase, at least in part, because of the 
parallel growth of population. The growth of population 
has been, also, a principal incentive to the discovery and 
exploitation of new lands and natural resources. It has thus 
stood in a causal relation both to the increase of capital and 
the settlement of new countries, and speculation as to whether 
a less rapid multiplication would have been on the whole 
advantageous to the average man, is idle. 

Quite a different question is that as to whether such large 
deductions from the products of industry for the payment 
of competitive and monopoly profits, of rent and of interest 



632 



ECONOMIC PROGRESS 



Economic 
Justifica- 
tion of 
Competi- 
tive Prof- 
its. 



Monopoly 
Profits. 



are necessary or defensible. It is at this point that radical 
reformers take issue with conservative economists. In pre- 
ceding chapters we have considered the most widely advo- 
cated plans for securing for the common benefit profits, rent 
and interest — labor copartnership, the single tax and social- 
ism. We must now examine these shares in a more positive 
way, to determine in what relation their payment stands to 
the motives and forces that cause economic progress. 

§ 367. Generally speaking, competitive profits are fairly 
earned by those who receive them. They are the incentive 
which industrial society offers to enterprisers to induce them 
to improve upon current methods of production. To secure 
them enterprisers compete actively to lower their expenses 
of production so that they may undersell one another, and 
the whole community is benefited by the resulting reductions 
in the costs of production. At times, however, competitive 
profits are obtained in ways that injure rather than benefit 
society. Unscrupulous employers may take advantage of 
the ignorance or necessities of their workmen to depress their 
wages below the level which permits them to maintain their 
industrial efficiency. Cheap commodities obtained by this 
means are all too dear if the best interests of producers and 
consumers alike be considered. Other enterprisers may un- 
dersell their competitors by adulterating their products. 
Still others may sell their goods for less than their produc- 
tion has actually cost, and by declaring themselves insolvent 
shift the resulting loss to their creditors. These and other 
forms of competition give rise to competitive profits for which 
industrial society receives no adequate return, and no effort 
should be spared to render them impossible. 

Even more important as sources of large incomes to par- 
ticular enterprisers are monopoly profits. These, too, are 
usually secured, at least at the outset, in consequence of 
improvements that have been made in the methods of pro- 
duction, but they must always be viewed with some suspicion, 
because they are likely to continue long after the improve- 
ments have been adequately paid for. If the monopolies which 
give rise to them are natural, that is, result from the fact that 
concentrated management and operation are economical for 



RENT AND INTEREST 633 

the given industries, sufficient monopoly profit to induce 
enterprisers to organize such industries on a large scale must 
be left to them if the benefits of monopoly are to be enjoyed. 
The government may properly interfere, however, in ways 
that have been discussed in earlier chapters, to prevent ex- 
cessive monopoly profits. If the monopolies are the result 
of legal privileges, control over their profits should be ex- 
ercised as a matter of course by the government which grants 
such privileges. If they are due to obstacles to the free play 
of competition, or to unfair forms of competition, the duty 
of the state to remove such obstacles and put a stop to such 
unfair practices is clear. Unless the government is zealous 
in the exercise of its control over monopolies, great inequali- 
ties in income are sure to result without any commensurate 
benefit to the whole community. 

§ 368. The payment of rent and interest for the use of Rent 
pieces of land and capital goods is a natural consequence ^^^ Inter- 
of the institution of private property in the factors of pro- ^^ " 
duction. That this institution has played an important part 
in stimulating economic progress in the past can hardly be 
questioned. It has served as a constant incentive to the in- 
dustry and thrift without which no advance could have been 
made. The principal economic motive of the average man 
is to provide for the comfort and happiness of his family. 
To accomplish this object he is willing to work laboriously 
and to set aside a part of his surplus income as a provision 
for the time when he can work no more, or as a means to 
giving his children a better start in life than he has himself 
enjoyed. But a necessary condition to the accumulation of 
wealth for future use is that the law shall protect individuals 
in the ownership and control over their property. Where 
such protection is lacking little wealth will be accumulated, 
and of that little a large part will necessarily be expended 
in safeguarding what is left. On the other hand, the more 
certain the legal protection afforded to property-owners the 
larger will their accumulations become and the more ample 
will be society's resulting equipment of capital goods. 

The payment of rent and interest has been explained as 
a transfer to property-owners of the shares of wealth which 



634 



ECONOMIC PROGRESS 



Justifica- 
tion of 
Rent. 



Justifica- 
tion of 
Interest. 



Unequal 
Distribu- 
tion of 
Wealth 
and Its 
Causes. 



have been produced through the use of their property. Al- 
though conceding the accuracy of this explanation, critics 
may, nevertheless, object to the payment of rent to private 
landowners as unfair and unnecessary because the qualities 
in the land for which it is paid are either natural or due to 
social changes for which landowners deserve no credit. The 
economist's reply to this contention has been that, while rent 
does frequently, if not usually, arise from these causes, it is 
still true that private property in land is the surest means 
of encouraging the best use of land. To the extent that 
rents may be diverted to the service of the whole community, 
without gross injustice to present landowners and without 
interference with the best uses of land, this reply loses its 
force and such diversion should be effected by means of taxes. 
As pointed out in Chapter XXVIII., the time seems already 
ripe for this change as regards urban rents, but the new 
policy must in fairness to city landowners be introduced by 
gradual steps. 

The payment of interest is the incentive which industrial 
society offers to those who will save and invest their incomes, 
just as wages are the premiums offered to those who will 
work. So long as men continue to be dominated by the mo- 
tives which now control them, the one is as defensible, eco- 
nomically, as the other. It is not so much the payment of 
interest that gives rise to dissatisfaction with the institution 
of private property, as the unequal distribution of wealth 
that accompanies it. 

§ 369. An unequal distribution of wealth must result from 
the institution of private property so long as individuals and 
families differ greatly in earning capacity and in prudence 
and forethought. Where these inequalities are found some 
individuals and families will enjoy large incomes, and out 
of these incomes will set aside for investment large savings, 
while others will accumulate little or nothing. In some fami- 
lies wealth and the qualities necessary to its preservation will 
become hereditary, and great fortunes will be passed on from 
parents to children through several generations. More fre- 
quently, if we may judge from the experience of the United 
States up to the present time, the wealth accumulated in 



INHERITANCE TAXES 635 

one generation will be gradually dissipated, either through 
division among numerous heirs or because those who inherit 
it lack either the capacity or inclination to keep it unim- 
paired. 

Undesirable as are inequalities in wealth, direct attempts 
to limit wealth accumulation would, in the author's opinion, 
be productive of more harm than good. A large and grow- 
ing fund of capital is indispensable to the maintenance of 
efficient methods of production and no measures should be 
adopted that are likely to weaken seriously the motives to 
saving and investment. The reasons for putting no check 
on an individual's right to accumulate wealth do not apply, 
however, to his right to transmit it at death to his heirs. Even 
though hereditary fortunes may be dissipated after a few 
generations, it is, nevertheless, true that much of the wealth 
in existence at any one time has been inherited by those who 
own it. Limitations on inheritances by means of inheritance 
taxes are, therefore, effective means of lessening inequalities 
in wealth among the individuals in each oncoming genera- 
tion. 

Of all forms of taxation, inheritance taxes are believed Argument 
to be the least objectionable. They are easily assessed and ^°^ Heavy 
collected. They cannot be shifted, but must be paid out of ^^ inheri- 
the inheritances on which they are intended to fall. Finally, tances. 
they impose a minimum burden upon taxpayers, since after 
they are established they soon come to be thought of as rea- 
sonable charges imposed by the state for its services in pro- 
tecting property and seeing that it passes into the possession 
of the legal heirs. For these reasons, as well as because they 
tend to lessen inequalities in wealth, large use should, in the 
opinion of the author, be made of these taxes as sources of 
revenue. The experience of other countries indicates that 
the best results are secured when inheritance taxes are made 
progressive. Small inheritances should be exempt from the 
tax. On larger inheritances the rate of taxation should in- 
crease by gradual steps until on large fortunes it becomes 
a substantial deduction, one-fifth or even one-quarter, from 
the inheritance. If the large revenues that may be derived 
from this source are used to improve and extend the public 



636 



ECONOMIC PROGRESS 



Progress 
in the 
Future. 



schools, to promote wise plans of social insurance and in other 
ways to benefit wage-earners and thus to lessen inequalities 
in fortune at the other extreme, steady progress may be made 
toward a more democratic distribution of wealth and welfare. 

§ 370. The review of the circumstances which have con- 
tributed to the economic progress of the past that has been 
given indicates the conditions upon which the economic prog- 
ress of the future must depend. Changes in wants and in 
habits of consumption calculated to increase the gratifications 
which men derive from goods and to lessen the cost involved 
in their production, must continue to be made ; methods of 
production must be further perfected by improvements in 
the capital goods used, by a fuller utilization of the forces 
of nature, by an increase in the fund of capital, by a better 
organization of industry and by a steady improvement in 
the efficiency of the working population ; the distribution of 
the social income must be modified so that the command over 
economic goods enjoyed by the rank and file in the industrial 
army will be ever larger. 

Some of the reforms that will assist toward these ends may 
profitably be recalled. Isolated workmen often fail to secure 
the earnings to which they are economically entitled because 
they do not bargain on terms of equality with their employ- 
ers. Trade unions are the agencies that must be relied upon 
to correct these inequalities. So long as they do not try to 
become close monopolistic associations, but confine their ac- 
tivities to securing the best terms possible for their freely ad- 
mitted members, they merit all the encouragement and as- 
sistance that can be given them. Notwithstanding conspicu- 
ous exceptions their general tendency is toward improving 
the condition of wage-earners and rendering more harmoni- 
ous and cordial the relations between them and their employ- 
ers. 
Labor Laws, pgr wage-earners among whom trade unions can be organ- 
ized, state interference to prevent the making of socially dis- 
advantageous labor contracts may not be necessary. In the 
case of great industrial classes, however, nothing but an ag- 
gressive policy of interference to establish the plane of com- 
petition can serve to protect workmen from unduly long hours 



Function 
of Trade 
Unions. 



REGULATION OF MONOPOLIES 637 

under unsanitary conditions. The codes of labor law already 
adopted must be extended and perfected, and in time may 
have to embrace even prescriptions in regard to the minimum 
rates of pay that will be tolerated in certain employments. 
Side by side with this policy of regulation must be developed 
systems of social insurance for caring adequately for the 
victims of industrial accidents, illness, old age and un- 
employment. 

In certain industries free competition has proved itself Regulation 
incapable of regulating economic relations as the general o^ Monop- 
interest requires. Some industries are monopolies by their 
very nature, others have become monopolies because of 
defects in the legal system. In relation to such industries the 
function of the state is clear. Natural monopolies should 
be controlled as regards the charges they are allowed to 
make for the services they render, and sometimes as regards 
also the quality of these services. When this control can 
only be exercised effectively through the expedient of gov- 
ernment ownership and operation, these should be fear- 
lessly undertaken. Only by such means can the interests of 
the public be safeguarded and injustice prevented. Monopo- 
lies that have arisen because of defective laws or public poli- 
cies should be attacked through such laws. It is the duty 
of the state, so long as it continues to permit free competi- 
tion, to enforce fair competition, and appropriate measures 
to this end must be devised and put into execution. 

The same reasons that make factory regulations necessary Of Housing 
to the health and safety of factory employees make necessary Conditions, 
the effective regulation of housing conditions in great cities. 
The ignorant and careless who submit to insanitary work- 
rooms will submit as readily to insanitary homes unless the 
state or city interferes to enforce minimum standards of 
cleanliness and decency. 

Even more important than increased attention to public Free Pub- 
health is increased attention to public education. For rea- ^^^ Schools, 
sons that have been given, parents cannot be depended upon 
to demand as high standards of education for their children 
as it is to the general interest that children should enjoy. The 
state must interfere to provide adequate schools and to com- 



638 



ECONOMIC PROGRESS 



Reform in 
Taxation. 



Progress 
Depends 
on Re- 
sponse of 
the Indi- 
vidual. 



pel attendance at such schools^ or others of similar grade, and 
its expenditures for this purpose, so long as they are calcu- 
lated to improve the educational advantages offered, can 
hardly err on the side of excess. In the United States the 
greatest need at the present time is for trade and technical 
schools to supplement the general training of the public 
schools and equally free to all classes. 

Space has not permitted an adequate consideration of the 
subject of taxation, but reasons have been given for the belief 
that the protective tariff of the United States has outlived its 
usefulness and the increased taxation of land in cities and 
of inheritances has been advocated. Reform in the methods 
of taxation is all the more important because the economic 
progress of the future is certain to involve a large increase 
in public expenditures. Public revenues must be secured 
through taxes which fall as little as possible on the poor, if 
the benefits derived from public expenditures are not to be 
largely offset by the curtailed incomes of those whose earn- 
ings are already all too small. 

The above are some of the reforms which the author would 
urge as substitutes for the more radical changes proposed 
by advocates of land nationalization and socialism. They 
belong distinctly to the present and the immediate future 
and need not be deferred to a future so remote that present 
discussion of them is of doubtful value. If economic progress 
is to follow from these changes, they must result in steady 
improvement in the standards of living and of efficiency of 
the wage-earners in each community. For, at last analysis, 
every effort to improve conditions which is not registered in 
the character and capacity of the average individual must 
prove futile. Unless he responds to the enlarged opportuni- 
ties that are presented to him, there is no hope of permanent 
betterment. That he will respond, and that rising standards 
of living will exercise the needed control over the growth 
of population, so that improvement in the quality of life will 
be as conspicuous a characteristic of the future as has been 
growth in wealth and numbers of the recent past, are beliefs 
shared by the majority of economists. 

§ 371. The trend of wage and interest rates and of rent 



PROGRESS IN FUTURE 639 

in future years cannot safely be predicted from their trend Probable 
in the past. All that can be said is that if present tendencies Course of 
continue to operate, certain results will follow. If the prog- jj^tgj.gg^ 
ress in production that may be confidently predicted con- ^^^ -^^^^^ 
tinues to be accompanied by a gradual rise in the standards in the 
of living of the working classes, there must be a steady in- Future. 
crease in wages. One effect of such an increase will be a 
larger and larger accumulation of capital on the part of 
wage-earners themselves and this, added to the capital accu- 
mulated by other classes, will have a tendency to reduce the 
rate of interest. There is little reason, however, for expect- 
ing anything more than a very gradual fall in interest, or 
that the rate will be lowered to nothing within many decades 
or even centuries. Opposed to such a result are the discov- 
eries of ever new uses for capital goods that are certain to 
be made, and the lessened rate of accumulation on the part 
of capitalists that may be expected as their incomes from 
capital, in consequence of the decline in interest itself, be- 
come smaller. The future course of rent will depend upon 
the relation between the growth of population and the prog- 
ress that is made in utilizing to better advantage the world's 
natural resources. The aggregate rent fund is certain to 
increase as it has in the past, as the area of the earth's sur- 
face turned to economic account increases. This may not, 
however, involve any marked lowering in the margin of culti- 
vation any more than has the progress of the last one hundred 
years. 

To predict whether the above changes, which may be said 
to be in progress at the present time, will continue uninter- 
ruptedly is beyond the power of economic science. As in 
the past, so in the future, new conditions and new forces 
are likely to present themselves, which will cause the antici- 
pations of present-day economists to seem as baseless as many 
of those of the economists of the past have already been 
proven to have been. 

§ 372. The impression almost necessarily left upon the 
mind by a treatise on economics is of a somewhat hard and 
material view of life. In concentrating attention upon goods 
and the gratifications which result from them, the economist 



640 



ECONOMIC PROGRESS 



Economic 
Progress 
and the 
Moral Ele- 
vation of 
the Race. 



True Goal 
of Economic 
Progress. 



seems to ignore religion, the family affections and other 
things that are, to say the least, fully as important. Excuses 
that may be urged in his behalf readily suggest themselves. 
He may not justly be accused of ignoring religion and the 
family affections because he has little to say of them. Like 
other specialists, he must confine himself rigidly to his par- 
ticular subject if he is to contribute anything of value to the 
sum of human knowledge. But the charge is not so easily 
answered. Economists profess to concern themselves with the 
conditions upon Avhich human well-being depends. They talk 
of gratifications, of pleasures and pains, of progress. Can they 
have anything final to say on these subjects when they pass 
over the very experiences which, in the opinion of so many per- 
sons, make life most worth living? It must freely be con- 
fessed that they cannot. Basing their conclusions on a study 
of the economic side of life, they can claim finality for them 
only as respects economic relations. The gratifications they 
discuss are gratifications connected with goods or with the 
activities necessary to the production of goods. Whether an 
increase in these gratifications really contributes to the moral 
elevation of the race is a problem that can be decided only 
by reference to broader considerations than fall properly 
within the field of economics. An economist may, neverthe- 
less, be pardoned a closing word touching this vital matter. 

Economic progress is something more than a progressive 
advance toward a state of society in which all individuals 
will be abundantly supplied with goods. It includes improve- 
ments in human activities as well as an increase in the grati- 
fications connected with consumption. Economically speak- 
ing, it is quite as important to get rid of the pains of produc- 
tion as to add to the pleasures of consumption. The econo- 
mist's ideal is thus a world in which wants and the activities 
of production are so harmoniously adjusted to each other that 
the field of industry offers full scope to all for the exercise of 
those faculties and capacities from which they get the greatest 
benefit and happiness, at the same time that it rewards all with 
the goods which they most require. Up to the present time 
progress has been mainly in the direction of adding to goods. 
It is necessary to raise consumption to a certain standard be- 



CONCLUSION 641 

fore it can be appreciated that additional comforts and luxu- 
ries are too dearly bought at the price of uncongenial toil, and 
before due attention can be attracted to the other line of de- 
velopment. When this standard is reached, however, the 
choice of occupations will begin to be made with greater 
reference to the tastes of individuals as producers, and with 
less regard to their need for goods as consumers. Progress 
from this point forward will be toward more and more con- 
genial work for all rather than toward a further multiplica- 
tion of goods. If contemporary economic discussions seem 
to over-emphasize the importance of goods, or w^ealth, and 
to give too little heed to worthy and ennobling activities, it 
is not because this is an essential characteristic of economics, 
but because it is still true that the mass of men are all 
too poorly supplied with goods, and that for them the economic 
problem of most pressing concern is how this deficiency may 
be relieved. For the middle and upper classes in the economic 
scale deficiency of goods has already ceased to be a ground 
for anxiety. The real economic evil for them is deficiency 
in congenial and self-developing pursuits, and the economist 
may unite with the moralist in urging, in their case, less con- 
cern about material comforts and more concern about the 
manner in which they pass their days. 

Economic progress is by no means the end of life, but, Conclusion, 
conceived in a broad way, it is fundamental to all progress. 
A certain control over material goods is essential to appre- 
ciation of all higher goods. Given control over the neces- 
saries and comforts indispensable to well-rounded existence, 
the next step is to find work which will afford scope for 
one's highest faculties. This quest, which is also largely eco- 
nomic, accords with the highest aspirations of the human spirit. 
For persons with artistic imagination and the creative faculty 
it will mean the choice of artistic professions or crafts; for 
those with scientific curiosity and the love of study it will 
mean the selection of scientific pursuits ; finally, for the great 
mass of men, who are now, and probably will continue to be, 
neither artists nor scientists by nature, it will mean the choice 
of those occupations which will enable them, while providing 
for their own needs, to minister most largely to the wants of 



642 ECONOMIC PROGRESS 

others and in this way to gratify most fully their social 
natures. For, if men are now self-seeking in a narrow sense, 
it is because the hard struggle for existence to which they have 
owed their development in the past has made them so. As 
goods become more plentiful, the larger social self, which 
already directs the lives of so many so-called unselfish persons, 
will become dominant. Its gratification will demand a con- 
stant ministering to the wants of others, just as the gratifica- 
tion of the narrower self of the average man now demands con- 
stant attention to personal wants and the wants of the family. 
Thus, if the study of economics seems to involve a hard and 
material view of life, it is because we still live in a hard and 
material age. The economist's ideal is not only not op- 
posed to the moral elevation of the race, but it includes that 
elevation as one of its essential elements. It is his confident ex- 
pectation that men will grow better as the conditions of their 
economic life become pleasanter; and his belief that they 
are destined to grow better in no other way is what gives its 
chief interest to his subject. 



INDEX 



Abraham, Miss M. E., 579 
Accidents, insurance against, 600 

ff. 
Adams, H. C, 68, 499, 535; T. S., 

560, 597 
Agriculture, progress of, in U. S., 

37 ff. 
Anthracite-coal, combination, 409 

ff. ; strike, 545 f . 
Anti-trust Act, the Federal, 461 

ff. ; amendments to, advocated, 

467 f. 
Arbitration, voluntary, 547 f . ; 

compulsory, 549 ff. 
Arkwright, R., 14 
Ashley, W. J., 20 
Assessments, special, definition of, 

477 
Atwater, W. O., 87 

Backhouse, J., 561 

Bank of England, the, 343 

Banking, description of, business, 
342 ff. ; importance of deposits 
in the, business, 345 f . ; institu- 
tions in the U. S., 361 ff.; con- 
elusions as to the, business, 
363 

Banks, forms of loans made by, 
346 f . ; how, lend their credit, 
348 f.; regulation of, 354 f. ; his- 
tory of national, in U. S., 356 
ff. ; defects in law regulating na- 
tional, 358 ff. ; reform in regula- 
tion of national, advocated, 360 
ff. 

Bargaining, collective, 542 ff. 

Barter, the disadvantages of, 322 

Bastable, C. F., 68, 398, 499 

Beard. C. R., 20 

Bellamy, E., 620, 627 

Bemis, E. W., 423 

Beveridge, W. H., 612 

Bibliographical note, 67 ff. 

Bimetallism, international, 378 f. 

Birth rates, 301 

Black, Miss C, 579 

Black death, the, 7 

Bogart, E. L., 49 



Bohm-Bawerk, E. von, 68, 108, 
152, 293 ff., 299, 321, 627 

Bolles, A. S., 364 

Bonar, J., 67 f. 

Bowker, R. R., 68 

Broadhead, H., 561 

Brooks, J. G., 560 

Budgets, family, 86 

Blicher, K., 68 

Bullock, C. J., 68, 87, 121, 134, 
152, 169, 212, 228, 261, 321 

Bureau of Corporations, the Fed- 
eral, 463 f. 

Burrows, R., 579 

Business, definition of, 50 

Business man, characteristics of 
the, 51 f.; activity of the, not 
always productive, 61 f.; ex- 
planation of distribution by the, 
174 f. 

Buyers, price scales of, 109 ff. 

Byington, Miss M. F., 85 f.; 88 

Cannan, E., 67 f. 

Capital, source of, 140; definition 
of, 141 f.; ways of acquiring, 
145 f. ; real income drawn from, 
180; arithmetical illustration 
showing function of, 184 ff.; 
growth of, in U. S., 314 ff.; in- 
fluences controlling growth of, 
316 f.; bank loans in relation to, 
350 ff. 

Capital goods, definition of, 60; 
role of, in production, 140 ff.; 
different characteristics of, 142 
f. ; varieties of, 148 ff. 

Carlton, F. T., 560 

Carnegie, A., 449 

Cartwright, Rev. E., 14 

Carver, T. N., 121, 151, 197, 212, 
243, 261, 282, 518 

Chapin, R. C, 86, 88 

Chapman, J. W., 518 

Check system, description of the, 
343 f. 

Cheyney, E. P., 20 

Cities, growth of, in U. S., 34 f.; 
land problems in, 530 ff. 



643 



644 



INDEX 



Clare, G., 382 

Clark, J. B., 67 f., 108, 121, 151, 
197, 261, 282, 321, 471; L. D., 
560; V. S., 560 f.; W. S., 560 

Clay, H., 387 

Colonial period, the, in America, 
21 

Coman, Miss K., 49 

Commerce, foreign, of U. S., 47 f. ; 
of U. K., 48; is productive, 
122 f.; interstate, act (see. In- 
terstate Commerce Act) 

Commons, J. R., 560 

Competition, effect of two-sided, 
on prices, 115 ff. 

Conant, C. A., 364 

Conrad, J., 67 

Constitution, Federal, tax pro- 
visions of the, 483 f . ; income tax 
amendment to the, 512 f. 

Consumption, definition of, 55 f. ; 
laws of, 70 ff.; economical, 78 f.; 
statistics of, 84 ff . ; two aspects 
of, 86 f . ; conception of margin 
of, 104 f. ; progress in, 629 

Cooperation, importance of, to 
production, 153 ff . ; varieties of, 
153 ff.; advantages of, 155 f.; 
disadvantages of, 156 f.; statis- 
tical evidence of advantages of, 
157 f.; distinguished from co- 
partnership, 159 n.; description 
of systems of, 587 If.; pro- 
ducers', 592 f . 

Copartnership, definition of, 159 
n. ; discussion of plans of, 587 
ff . ; probable future of, 595 f . 

Copyright, law of, in U. S., 406 f. 

Corporations, description of, 161 
f. ; advantages of, 161; disad- 
vantages of, 161 f. 

Cort, H., 14 

Cossa, L., 68 

Cost of production, definition of, 
57; law of least social, 76flF. ; 
marginal, and value, 92 ff . ; same 
in industrial society, 100 ff. 

Credit, nature of, 341 ; not capital, 
351; limitation on use of, by 
banks, 352 ff. 

Crompton, S., 14 

Crops, principal, of U. S., 38 f. 

Cross, I., 627 

Cunningham, W., 20 

Daniels, W. M., 499 

Darwin, L., 423 

Dawson, M. M., 612; W. H., 612 



Death rates, 301 

Debasements of coinage, in Eng- 
land, 10 

Deduction, definition of, 63 

Demand, law of, 73 f . ; elasticity 
of, 73 f.; scales, llOf. 

Dewey, D. R., 49, 340 

Distribution, description of, 59 ff. ; 
relation of, to production, 170 
ff. ; shares in, enumerated, 172 
ff. ; relation among shares in, 
195 f.; law of competitive, 196, 
276 ff. ; graphic representation 
of, 284 f . ; restatement of law of 
competitive, 290 f . ; other theo- 
ries of, 293 ff. ; ultimate deter- 
minants of, 319 ff.; and taxa- 
tion, 514 ff.; progress in, 630 ff. 

Disutility, marginal, and value, 
92 ff.; graphic representation of, 
94 ff. ; marginal, and value in 
industrial society, 100 ff. 

Dixon, F. H., 441 

Drage, G., 560 

Ducpetiaux, E., 84 

Dunbar. C. F., 68, 340, 364 

Durand, E. D., 518 

Duties, customs and internal rev- 
enue, in U. S., 500 f. 

Eastman, F. M., 518; Miss C, 
612 

Economic goods, definition of, 53 

Economic man, characteristics of, 
51 f.; qualities influencing the 
efficiency of, 135 ff. 

Economics, definition of, 1 ; meth- 
ods of, 63 f . ; laws of, 64 ff. 

Edgeworth, F. Y., 68 

Education, unequal opportunities 
for, 257 f. ; should be free pub- 
lic, 259 

Edward VI., 10 

Eight-hour day, question of the, 
569 ff. 

Elizabeth, Queen, 9 

Ely, R. T., 67 f., 87, 228, 423, 518 

Engel, F., 84 

England, rise of modern industry 
in, 2 ff. 

Enterpriser, definition of the, 159; 
the single, 160 

Expenditures, government, 472 ff . ; 
public V. private, 473 ff. 

Expenses of production, definition 
of, 58 

Express, the, business a monopoly, 
424, 436 f. 



INDEX 



645 



Factory system, introduction of 

the, in England, 17 f. 
Fawcett, H., 398 
Fay, C. R., 597 
Fee, definition of a, 481 
Fetter, F. A., 87, 121, 197, 212, 

228, 261, 321 
Fillebrown, C. B., 535 
Fisher, I., 295 n., 299 
Ford, J., 597 
Foreign exchange, nature of, 365 

ff. 
Franchises, taxes on special, 496 
Frankel, L. K., 612 
Free goods, definition of, 53 
Free trade, England's adoption of 

policy of, 16; argument for, 

385 ff. 
Fulton, R., 14 

Fund, definition of the replace- 
ment, 171; calculation of the 

replacement, 289 
Futures, dealings in, described, 

200 ff. 

Gain sharing, 585 ff. 

George, H., 527 ff., 532 

Ghent system of unemployment 
insurance, 609 f. 

Gibbins, H. de B., 20 

Gibbon, I. G., 612 

Gide, C., 67 

Gilds, description of merchant, 
5 f . ; description of craft, 6 f . 

Gilman, N. P., 560, 597 

Gold, merits of, as standard 
money, 325 f. ; total stock of, 
326; the U. S., reserve, 335 f.; 
the, points, 366 f.; a country's, 
supply regulates itself, 369 f . ; 
U. S. normally exports, 370 f. ; 
demand for and supply of, 371 
f. ; statistics of, production of, 
374 f. ; triumph of, standard, 
379; future of, standard, 380 

Goldmark, Miss J., 579 

Goods, definition of, 53; valuation 
of complementary, 102 f.; serv- 
ices of consumers', part of real 
income, 179 f.; reasons why 
present, are preferred over fu 
ture, 316 f. 

Hadley, A. T., 68, 282 
Haney, L. H., 67 
Hargreaves, J., 14 
Harmony, law of, 75 
Harrison, Miss A., 579 



Havemever, H. 0., 456 
Hayes, C. H., 612 
Heilman, R. E., 423 
Henry VII., 9; VIII., 9 f , 
Hill, J. A., 578 
Hillquit, M., 627 
History, definition of, 2 
Hobson, J. A., 68 
Hollander, J. H., 67, 518 
Howe, F. C., 423, 518 
Huebner, S., 518 
Hutchins, Miss B. L., 579 

lies, G., 68 

Illness, insurance against, 605 ff. 

Immigration into U. S., statistics 
of, 30 f. 

Inclosures in England, 8 

Income, definition of money, 171; 
definition of real, 171; relation 
of money, to net product, 177 f. ; 
real, includes services of con- 
sumers' goods, 179 f.; arith- 
metical illustration showing 
source of, 184 ff.; funded, 225 f. 

Index numbers, explanation of the 
use of, 375 ff. 

Induction, definition of, 63 f . 

Industrial revolution, description 
of the, 12 ff. 

In i unction in labor disputes, 552 
iff. 

Insurance, social (see. Social in- 
surance ) 

Interest, economic cause of, 147 
ff.; explanation of, 262 ff.; defi- 
nition of, 262; preliminary ex- 
planation of, 265; influence of 
the replacement fund on, 266 f.; 
causes of differences in, 269 ff. ; 
high in U. S., 276; explanation 
of marginal rate of, 276 ff. ; ex- 
planation of, illustrated, 279 ff.; 
restatement of theory of, 288; 
exchange theory of, 293 ff . ; eco- 
nomic justification of, 634 f. ; 
probable course of, in future, 
639 

Internal revenue, present, of U. S., 
501 f. 

Interstate Commerce Act, pro- 
visions of the, 433 f. ; defects in 
the, 434; amendments to the, 
434 ff. ; further amendments to 
the, advocated, 439 f. 

Inventions, eighteenth century, 13 
ff. ; nineteenth century, 43 f. ; 
profits from, 205 f. 



646 



INDEX 



Jenks, J. W., 218, 471 

Jevons, W. S., 68 

Johnson, A. S., 243; E. R., 441; 

J. F., 340 
Jones, B., 597 
Judson, F. N., 518 

Keynes, J. N., 67 
Kinley, D., 340 
Kinsman, D. 0., 518 
Kirkup, T., 627 
Knox, J. J., 364 

Labor, division of, 153 ff. ; the, 
movement, 536 fF. ; organizations 
in U. S., 538 f.; in U. K., 539 f.; 
law in reference to, organiza- 
tions in U. K., 539 f.; in U. S., 
540 f. ; influence of, organiza- 
tions on wages, 554 fF. ; other 
purposes of, organizations, 557 
f. ; policy toward, organizations 
advocated, 557 ff . ; legislation, 
562 ff. ; constitutionality of, 
laws in U. S., 564 f.; child, 
laws in U. S., 566 f. ; laws for 
women, 567 f. 

Laissez-faire policy in England, 
15 f. 

Land, economic definition of, 123 
f. ; different characteristics of 
pieces of, 125 f.; high value of, 
in cities, 133 f.; profits from 
new, 208 f . ; capitalization of 
taxes on, 498 ff. ; private prop- 
erty in, 525 ff. ; present, prob- 
lem in U. S., 526; desirable re- 
forms in the, system of U. S., 
529 ff. 

Laughlin, J. L., 340, 377 

Law, definition of, 2; Gresham's, 
329 f. 

Laws of economics, definition of, 
64 ff. 

Legislation, labor (see, Labor, 
legislation) 

Le Rossignol, J. E., 423, 518, 561 

Leslie, J. E. Cliffe, 68 

Levasseur, P. E., 300, 560 

Lewis, F. W., 612; G. H., 441 

List, F., 387 

Loans, revenue from government, 
478 ff. 

Lockouts, 544 ff. 

Lodge, H. C, 36 

Luxury, definition of, 80; eco- 
nomic aspects of, 80 ff. 



Macdonald, J. R., 627 

McMaster, J. B., 36 

Malthus, T. R., 67; theory of 
population of, 302 ff. 

Man, economic (see. Economic 
man) 

Manorial system, description of 
the, 2ff. 

Manors, size of, 3 

Manufactures in the U. S., 44 ff. 

Manufacturing, original meaning 
of, 13; productive, 122 f. 

Map showing increase in popula- 
tion, 1900-1910, 33 

Market, definition of a, 110 

Marriage rates, 301 

Marshall, A., 67 f., 87, 121, 134, 
152, 169, 197, 212, 228, 243, 
261, 282, 321 

Marx, K., socialism of, 614 ff.; 
627 

Mayo-Smith, R., 87, 321 

Meade, E. S., 471 

Mechanical inventions, 1760-1785, 
13 ff.; nineteenth century, 43 f. 

Menger, C, 68 

Mercantile system, description of 
the, 11 f. 

Methods of economics, discussion 
of the, 63 f. 

Meyer, B. H., 441 

Mill, J. S., 68, 243, 296, 299 

Millis, H. A., 518 

Milnes, A., 20 

Mineral production in U. S., 40 ff. 

Mining, iron, progress of, in U. 
S., 40 f . ; effect of natural dif- 
ferences on profits in, 127 

Mitchell, J., 560 

Monetary system, regulation of 
the, by government, 327 f . ; of 
U. S., 332 ff. ; defects in the, of 
U. S., 336 

Money, value of, 106 f.; nature 
and fimctions of, 322 ff. ; prices 
and value of, vary inversely, 324 
f . ; various kinds of, 324 f . ; 
qualities of a good, 325 f . ; 
standard, token and credit, 328 
f. ; in circulation in U. S., 333 
f.; unsettled problems in refer- 
ence to, 371 ff.; demand for and 
supply of gold, 371 ff. 

Monopolies, early English, 11; 
kinds of, 214 ff. ; limitations on, 
216 ff.; are sometimes advan- 
tageous, 226 f . ; legal and nat- 
ural, 399 ff. ; English statute 



INDEX 



647 



against, 401; in U. S., 402; 
profits of natural, of organiza- 
tion, in U. S., 415 flf.; regula- 
tion of municipal, 418 ff. 

Monopoly price (see, Price, mo- 
nopoly) 

Monopoly profits (see. Profits, mo- 
nopoly ) 

Montague, G. H., 471 

More, Mrs. L. B., 88 

Muhleman, M. L., 564 

Murphy, E. G., 579 

National Cash Register Company, 

unfair practices chai-ged against 

the, 453 if. 
National ideal in U. S., 23 
National system in England, 9 S. 
Necessaries, definition of, 80 
Negroes in U. S., 31 f. 
Newcomen engine, the, 13 
New York City, expenditures of, 

475 
New York State, expenditures of, 

475; sources of revenue of, 

504 f. 
New Zealand, arbitration system 

of, 549 ff. 
Nicholson, J. S., 134, 169, 243 
Normal, definition of, 183 n. 
Normal equilibrium, state of, de- 
scribed, 56 f.; assumption of 

state of, 182 flf. 
Notes, bank, 349 f . ; emergency 

bank, of 1908, 357; elasticity of 

bank, 359 f. 
Noyes, A. IT., 340 

Old age, insurance against, 607 ff. 

Organizations, labor (see. Labor, 
organizations ) 

Ownership, arguments for and 
against public, of municipal mo- 
nopolies, 419 ff.; same of rail- 
roads, 473 ff. 

Palgrave, I., 67 

Par of e.xchange, definition of, 366 

Partnership, description of a, 

160 f. 
Patent system of U. S., 403 ff.; 

changes in, proposed, 404 ff. 
Payne- Aldrich tariff, the, 391 ff. 
Pierson, N. G., 108, 152, 212, 243, 

261, 282, 299, 340 
Plehn, C. C, 499, 518 
Plener, E. von, 579 
Politics, definition of, 2 



Population, growth of, in U. S., 
30; statistics of, 300 ff.; Mal- 
thusian theory of, 302 ff. ; other 
theories of, 304 ff. ; a stationary, 
307 ff.; growth of, in China, 310 
f. ; growth of, in France, 311 f. ; 
conclusions as to, 312 f. 

Price, L. L., 20, 67 

Price, definition of, 55 ; impor- 
tance of, 105 ; determination of, 
109 ff.; four situations for de- 
termination of, 112 ff.; market 
V. normal, 120 f. ; definition of 
normal, 120; law of monopoly, 
219; summary of theory of, 
283 f. 

Prices, effect of changes in, on 
profits, 203 f. ; measuring 
changes in level of, 375 ff.; sta- 
tistics of, 377 ff. 

Product, definition of the net, 
170 f.; increase in net, leads to 
increase in money income, 177 
f. ; relation between net, and in- 
comes, 178 ff. 

Production, definition of, 55 f . ; 
cost of, 57 ; expenses of, 58 ; na- 
ture of, 122; factors in, 123 f.; 
progress in, 124 f. ; man's part 
in, 135 ff.; description of capi- 
talistic, 140 ff. ; progress in cap- 
italistic, 150 f . ; contrast be- 
tween large and small scale, 165 
f. ; advantages of large scale, 
166 ff.; and distribution, 170 ff.; 
arithmetical illustration show- 
ing relation of, to distribution, 
184 ff.; graphic, illustration of 
same, 189 ff.; another graphic 
illustration, 284 ff. ; progress in, 
629 f. 

Profit sharing, 580 ff. 

Profits, competitive, 198 ff.; defi- 
nition of competitive, 199; 
causes of competitive, 199 ff. ; 
conclusion as to competitive, 
211 f.; monopoly, 213 ff.; defini- 
tion of monopoly, 213; methods 
of concealing monopoly, 222 
ff. ; justification of competitive, 
632 f. 

Progress, economic, 628 ff. ; in fu- 
ture, 636 ff.; the goal of, 
640 f. 

Promoter, the role of the, 446 

Property, private in land, 525 
ff. 

Protection, the policy of, 385; ar- 



648 



INDEX 



guments for, 386 ff. ; their 
weakness for U. S., to-day, 394 
flf. 
Public service industries in U. S., 
411 flf. 

Rae, J., 67 f. 

Railroad, the, problem in U. S., 
424 ff. ; the, business monop- 
olistic, 425; concentration of 
the, business in U. S., 425 ff. 

Railroads, progress of, in U. S., 
28 f. ; rate discrimination by, 
427 ff. ; monopoly profits of 
American, 432 f . ; arguments for 
and against national ownership 
of American, 437 ff. 

Rand, E. B., 36 

Raper, C. L., 441 

Reeves, W. P., 561 

References for collateral reading, 
20, 36, 49, 67 ff., 87 f., 108, 121, 
134, 151 f., 169, 197, 212, 228, 
243, 261, 282, 299, 321, 340, 
364, 382, 398, 423, 441, 471, 
499, 518, 535, 560 f., 5781, 
597, 612, 627 

Rent, source of economic, 128 ff.; 
situation as cause of, 131 f. ; 
explanation of, 229 ff. ; defini- 
tion of, 229 f . ; calculation of, 
233 f . ; explanation of, 234 f . ; of 
mines, 235 ; of sources of water- 
power, 235 ; capitalization of, 

239 f . ; summary of theory of, 

240 f . ; importance of, 242 f . ; re- 
statement of theory of, 286 ; eco- 
nomic justification of, 634; 
probable course of, in future, 
639 

Representative firms, definition of, 

168 f. ; influence of, on normal 

prices, 193 f. 
Returns, law of diminishing, 129 

f., 143 f. 
Revenues, government, 452 ff . ; 

sources of, 476 ff. 
Ricardo, D., 67 
Richard I., 10 
Ripley, W. Z., 441, 471 
Robinson, M. H., 518 
Rochdale system, success of the, 

588 f. 
Rogers, J. E. T., 20 
Rosewater, V. E., 518 
Rousiers, P. de, 560 
Rowntree, B. S., 88 
Rubinow, I. M., 612 



Saving, economic consequences of, 
83; motives opposed to, 316 f.; 
motives for, 317 ff. 

Say, L., 67 

Schloesser, H. H., 560 

Schloss, D., 597 

Schmoller, G., 68 

Schoenhof, H. J., 261 

Scott, W. A., 340 

Seager, H. R., 299, 471, 560, 612 

Seligman, E. R. A., 67 f., 108, 121, 
134, 151, 169, 212, 243, 261, 282, 
364, 499, 532 

Sellers, price scales of, 109 ff. 

Shaler, N. S., 36 

Shearman, J. G., 585 

Silver, use of, as money, 326; pol- 
icy of U. S., 332 f.; disposal of 
surplus, dollars advocated, 338 
ff. 

Simkhovitch, V. G., 627 

Single Tax, arguments for and 
against the, 527 ff. 

Smart, W., 68, 108 

Smith, Adam, defense of laissez- 
faire policy of, 15 f., 67; erro- 
neous statement about value of, 
107 f., 261; T., 612 

Social insurance, 598 ff. ; definition 
of, 600; against industrial acci- 
dents, 600 ff. ; against illness, 
605 ff. ; against old age, 607 ff. ; 
against unemployment, 609 ff. ; 
conclusions as to, for U. S., 
611 f. 

Socialism, 613 ff.; Utopian, 613 f.; 
of Karl Marx, 614 ff.; criticism 
of Marxian, 616 ff.; progress of, 
619 f.; difficulties to realization 
of, 621 ff.; conclusions as to, 
625 f. 

Sociology, definition of, 1 

Sombart, W., 627 

Spargo, J., 519, 627 

Special assessments, definition of, 
477 

Speculation, function of, 200 ff. 

Spiers, F. W., 423 

Standard, future of the gold, 380 
f.; the multiple, 381 f. 

Stanwood, E., 398 

Statute of apprentices, provisions 
of the, 10 f.; repeal of the, 
16 

Statute of monopolies, the English, 
401 

Stephenson, R., 14 

Sterling exchange, definition of. 



INDEX 



649 



366; influences affecting rate of, 
367 ff. 

Stevens, W. S., 471 

Stewart, W. D., 561 

Stickney, A. B., 441 

Stimson, F. J., 578 

Stock, definition of, preferred, 446 

Street railway business in U. S., 
412 ff. 

Streightoff", F. A., 88 

Strikes, 544 ff. ; plans for avoid- 
ing, 546 ff. 

Sumner, Miss H., 560, 597; W. G., 
68, 398 

Supply scales, 110 f. 

SAveating system, the, 571; reme- 
dies for the, 573 f. 

Tarbell, Miss I., 471 

Tariff, the, question, 383 ff. ; origin 
of present U. S., 388 f.; the 
Payne- Aldrich, 391 ff.; making 
of a, in U. S., 393 f.; the, of 
the U. K., 393; present status 
of the, question in U. S., 396 f.; 
retaliation, 397 ; the, and the 
trusts, 456 ft". ; system of U. S., 
500 

Tariffs, early U. S., 24 

Tarr, R. S., 409 

Taussig, F. W., 49, 68, 121, 152, 
169, 212, 228, 243, 261, 282, 299, 
321, 340, 364, 398 

Tax, definition of a, 481; the gen- 
eral property, 487 f., 502; the 
income, 502, in U. K., 509 f. ; in 
U. S., 512 fl".; reform, 519 ff.; 
suggestions as to federal, sys- 
tem, 520; reform of state, sys- 
tem, 521 ff.; the Single, 527 
ff. 

Taxes, theories about, 482 f . ; 
shifting and incidence of, 484 
ff. ; capitalization of land, 489 
ff. ; corporation, 493 ff.; special 
franchise, 496 f. ; liquor license, 
498 f.; inheritance, 499; in U. 
S., 506 ff. ; best kinds of corpo- 
ration, 522 f . ; advantages of 
high license, 523 ; real estate, 
524 f. ; special franchise, 532 f . ; 
conclusions as to reform of sys- 
tem of, in U. S., 532 ff.; argu- 
ment for heavy inheritance, 
635 f. 

Telegraph, the, business, 424, 437 

Telephone, the business, 414 ff., 
424, 437 



Thompson, H. M., 261; R. E., 398 

Toynbee, A., 68 

Trade, foreign and domestic, con- 
trasted, 383 f.; principles con- 
trolling foreign, 384 f. 

Trade-marks, law protecting, in 
U. S., 406 

Trades, dangerous, regulation of, 
575 ff. 

Trade unions (see^ Labor, organi- 
zations) 

Trust, the, problem in U. S., 442 
ff. ; definition of a, 442 

Trusts, the early, in U. S., 443 f . ; 
progress of, in U. S., 444 ff. ; 
business success of, 447 f. ; rea- 
sons for success of, 448 f. ; ille- 
gitimate practices of the, 45 If. ; 
the, and the tariff, 456 f . ; other 
evils of the, 457 ff. ; three ways 
of regulating the, 464 ff. ; the 
future of, in U. S., 468 f. 

Turner, E. J., 36 

Unemployment, insurance against, 
609 ff. 

Unions, trade (see, Labor, organi- 
zations ) 

United States, early ideals in the, 
22 f . ; physical characteristics of 
the, 25 ff. ; monetary system of, 
330 ff. ; public expenditures of 
the, 475 

Urdahl, T. K., 518 

Utility, law of diminishing, 70 ff.; 
marginal, and value in use, 
89 f . ; influences affecting mar- 
ginal, 91 f.; graphic represen- 
tation of, 94 f . ; surplus, 97 

Value, definition of two senses of, 
53 f . ; relation of, to utility, 54 ; 
relation between, in use and, in 
exchange, 54 f. ; explanation of, 
in use, 89 ff., 97 ff. ; exchange, 
a ratio, 105; summary of theory 
of, 283 ; measuring the, of 
money, 375 ff. 

Van Hise, C. R., 471 

Van Kleeck, Miss M., 579 

Variety, the law of, 74 f. 

Wage, the minimum, 573 f. 

Wage-earners, the disadvantages 
of, 536 f. 

Wages, explanation of, 244 ff. ; 
definition of, 244; causes of dif- 
ferences in, 245 ff, ; influence of 



650 



INDEX 



.yyVt*A<— 



immobility of workers on, 251 
f. ; efficiency and time, con- 
trasted, 252 f . ; other causes of 
differences in, 253 ff. ; influence 
of standards of living on, 256 fF. ; 
conclusion as to, 260; explana- 
tion of marginal, 276 ff. ; re- 
statement of theory of, 287 ; 
practical applications of theory 
of, 536 fF.; defects in the, sys- 
tem, 580; probable course of, in 
the future, 639 

Wages-fund, the, theory, 296 AT. ; 
Mill's statement of the, theory, 
296 f . ; criticism of the, theory, 
298 

Wages-of-management, definition 
of the, 172 f.; explanation of 
the, 175 flF. 

Walker, F., 518; F. A., 68, 134 

Walling, W. E., 627 

Wants, characteristics of, 10 ff. 



Warner, T., 20 

Water, business of supplying, 

411 f. 
Watt, J., 13 
" Wealth of Nations," citations 

from, the, 15 f., 107 f. 
Webb, Mrs. B., 560, 579; S., 560 
Wells, H. G., 627 
West, M., 518 
White, H., 340 
Whitney, E., 57; J. D., 36 
Whittelsey, Miss S. D., 579 
Whitten, R. H., 518 
Wieser, F. von, 68 
William III., 12 
Wilson, W., 36 
Wolf, H. W., 597 
Workmen's compensation, different 

systems of, 601 ff.; in U. S., 

602 f. 
Worthington, T. K., 518 
Wright, C. D., 49 



\\n 



IB'^l 



